Saturday, March 19, 2016

Companies (Amendment) Bill 2016: An Analysis

[The following post is contributed by Vinod Kothari of Vinod Kothari & Co.]

The Government placed a Bill to amend the Companies Act, 2013 (the “2013 Act”), passed less than 3 years ago, proposing nearly 100 amendments, purported to be for the ease of doing business. Most of the amendments proposed in the Bill are to implement the recommendations of the Company Law Committee, which was appointed in response to thousands of complaints that the 2013 Act was unduly restrictive and counter-productive.

The major amendments mooted in the Bill are:

- Section 185 of the 2013 Act, one of the most unproductive sections prohibiting loans and guarantees by companies to entities in which directors are interested, will be narrowed down, to permit companies to given loans and provide guarantees on the basis of a shareholders’ resolution.

- Universal object companies will be permitted.

- Wholly-owned subsidiaries of foreign companies will be permitted to call their extra ordinary meetings outside India.

- Central Government control on managerial remuneration is proposed to be completely omitted. Section 197, which places limits on managerial remuneration, will now require special resolution only, if the limits placed under the law are exceeded.

Easing unwarranted compliances

- Registration of charges – permitting charges that do not require registration: The Bill seeks to enable the Central Government to notify such charges for which registration of charges will not be required. In the Companies Act, 1956 (the “1956 Act”), pledges did not require registration. Following the 2013 Act there has been a flip-flop on this – the Act requires registration of all charges, the draft Rules sometime in early 2014 excluded pledges, and the final rules once again included pledges in the list of registrable charges. It seems that the sentiment is once again to exclude pledges, hypothecation of vehicles, etc.

- Changes in shareholding of promoters and top 10 shareholders omitted: Section 93, which required the company to file changes in shareholding of its promoters and top 10 shareholders, is proposed to be omitted.

- Permitting flexibility in place of calling company meetings: Section 96 is proposed to be amended to permit unlisted companies to hold their annual general meetings (“AGMs”) anywhere in India, if permitted in advance by all members. This will enable subsidiary companies and closely held companies to better manage their AGMs. Regrettably, India has still not learnt from the UK law, which does away with the formality of AGM for small companies completely. Also, there are no permissive provisions enabling companies to hold the AGMs also in the electronic mode. Similarly, section 100 is proposed to be amended to permit the calling of extraordinary general meetings (“EGMs”) at any place anywhere in the world, in case of subsidiaries of foreign companies. Notably, the restriction on place of calling the EGM was never there in corporate laws, and was strangely inserted in the Rules made under the 2013 Act.  

- Pecuniary interest in case of independent directors: As condition of director independence, the existing language of section 149(6) seemed to disqualify a director based on any pecuniary interest. It is notable that SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 continue to use the words “material pecuniary interest”. The clause is now sought to be amended to provide that an independent director will not lose independence if such director has transactions amounting up to 10% of total income.

- Pre-deposit of money in case of appointment of independent directors: Section 160 of the Act requires a pre-deposit of money in case of appointment of any director, other than a retiring director. While the author of this post has consistently been holding the view that this requirement has no place in case of independent directors, who are proposed by the company itself rather than by the members or the director himself, an amendment is now sought to be inserted waiving the deposit requirement in case of independent directors.  

- Enabling board meetings by video conferencing: Once law recognizes technology (video conferencing (“VC”) or other audio visual means), it is curious to expect that there are certain matters that cannot be transacted by VC. Section 173(2) restricts the use of VC for certain restricted matters. This entire provision should have actually been deleted, as it was not serving any useful purpose. Instead, the Bill seeks to provide that if there is a physical quorum present at the venue of the meeting, then the remaining directors may participate by VC. In fact, there may be no particular place of the meeting at all, as all directors may be actually wired by technology. Quite anachronistically, section 173 is proposed to be amended to provide that there must be a minimum number of directors present at the venue of the meeting, for the other directors to participate by VC, in case of such restricted matters.

Intercorporate loans, investments, guarantees and securities

Sec 185 was apparently one of the most unproductive provisions of the 2013 Act, affecting companies and bankers alike. Unlike its equivalent in the 1956 Act, section 185 prohibited the giving of loans, enabling loans by guarantees or securities in case of entities where the directors are interested. We have earlier written that similar provisions are there in laws of many other countries, but no other country creates a total prohibition.

The law is now sought to be amended to provide that it shall be open for the company to pass a special resolution approving the giving of loans, guarantees or securities. Such resolution must provide the requisite particulars.

Likewise, section 186 is proposed to be amended to permit making of investments in subsidiary companies or joint venture companies.

Shortcomings of the Bill

- Requiring KMPs in companies a certain size: Among the problematic provisions of the 2013 which have not been redressed by the Amendment Bill are the  provisions of section 203, which requires every company of a certain size to have at least three classes of key managerial personnel. This has been one of the most impractical provisions of the 2013 Act, requiring companies to perfunctorily designate Chief Financial Officers and Company Secretaries in companies which have significant capital, but do not have day-to-day business. There was a widespread demand that either such companies may designate the same person to look after several positions, or the same person to look after several companies. However, nothing has been done to introduced amendments in this section, although the definition of “key managerial personnel” in section 2(51) has been widened.

- Difficulties in private placements: Another significant difficulty created by the 2013 Act was the unduly restrictive set of provisions pertaining to private placements. This over-ambitious scheme of regulation was a direct result of some incidents in the past. One such provision requires every private placement to be routed through a separate bank account opened for this purpose, and a bar on utilization of the money until allotment. While the Bill rewrites the entire section 42, it in fact bars the use of money until the return of allotment has been filed with the Registrar of Companies. It is curious to notice that the use of the money has been linked with filing of a document, for which the time allowed is as much as 60 days for allotment, and 15 days for filing the return. More often than not, the amount received in private placement is large, and companies cannot afford to keep the amount idle even for a day. The only relief in the private placement provisions seems to be that the amount of penalty for contravention has been limited to Rs 2 crores, which was earlier seemingly extending to the entire amount raised by private placement.

Ironing out the creases left by the 2013 Act:

Several of the proposed amendments fill the gaps left, or incongruences of the 2013 Act. These include:

- Definition of “net worth” in sec. 2 (57) will include the credit balance in profit and loss account, whereas the language as it currently stands seems to suggest, rather very illogically, that the accumulated surplus and profit and loss account is not to be taken as a part of the net worth.

- The definition of holding and subsidiary companies was highly confusing in the 2013 Act, using “total share capital”  (later defined as including equity and convertible shares) as the basis for consolidation. Accounting standards have consistently used voting power as the basis for identifying “control” and “significant influence”. The proposed amendments align the provisions of the Act with the accounting standards.

- Additionally, a provision enabling the Government to control the number of layers of subsidiaries has been completely dropped, both from section 2(87) as also in section 186(1) of the Act.

- The definition of “turnover” as presently existing is quite confusing and may be interpreted to mean gross receipts. The definition has now been aligned with financial reporting.

- The provisions pertaining to registration of modification and satisfaction of charges erroneously omitted the power of the Registrar to grant extension of time up to 300 days. The Bill seeks to amend section 82 to correct this anomaly.

The advent of universal objects companies:

As a landmark move, the Bill enables the formation of universal object companies. The concept of universal object companies, present in several countries, envisages a company that can carry out any business that a natural person may do. The company is free to carve a negative list of businesses that the company may not want to do.  Thereby, the doctrine of ultra vires gets a decent burial, and the constitutional documents of companies become small and meaningful, instead of containing a big heap of unwarranted “objects” which the company may not even want to engage in in foreseeable future.

Enabling provisions for small companies:

Small companies is a concept widely used in global corporate legislation to include such companies for which most of the corporate law compliances are completely exempted, in view of the small size and limited public interest in such companies. The existing definition of the law limits the scope of “small companies” to only companies having a turnover of Rs. 2 crores. The amount is being increased to Rs. 5 crores, although the limit of paid up capital still remains Rs. 50 lacs. The government is being given a power to notify a higher amount of turnover, going up to Rs. 100 crores, within which a company may still be treated as a small company.

Currently, the law does not confer much statutory liberty to a small company. Hopefully, the government may use its power of notifying exemptions to give more space under the law for small companies, much in line with the government’s policy to encourage start-ups to incorporate as companies and to stem the exodus from the corporate form to the limited liability partnership form of business.

An abridged form of annual return is expected to be announced in case of small companies. Likewise, section 134 is sought to be amended to provide for an abridged form of financial statements in case of small companies.

Provisions at the instance of banking companies

- Banks making use of corporate debt restructuring (CDR) and strategic debt restructuring (SDR) schemes often convert their loans into equity, and one common problem being faced was that the fair value of the equity share was less than its par value. However, the bar in the Act against issuing shares at a discount would force a banker to convert the loans at least at par value of the equity. The provisions of section 53 are proposed to be amended to permit conversion of loans into equity at less than the par value.

- Banks were facing restraints while extending loans based on guarantees and securities provided by associated companies. Section 185 is proposed to be amended to ease the provision.

Provisions easing business by overseas entities

In support of the “Make in India” policy, it is quite appropriate that the Bill must have enabled foreign owned businesses to form companies in India. Accordingly, there are several provisions to facilitate foreign-owned businesses:

- EGM of a wholly-owned subsidiary of a foreign company may be called anywhere  in the world.

- The requirement for a resident director provided in section 149 is sought to be amended to provide that in case of newly incorporated companies the condition may be satisfied subsequent to incorporation, rather than before incorporation.

Adding new compliance requirements

Sections 89 and 90 are proposed to be amended to introduce new requirements in respect of beneficial interest in shares. While section 89, pertaining to filing of beneficial interest in shares, is being widened to include a new, broad definition of “beneficial interest” (including either voting rights, or dividend rights, or any other right), a new section 90 is proposed to substitute the existing section, to require declaration of ultimate beneficial ownership by an individual, who, singularly or through one or more entities, holds 25% or more the share capital of a company. Arguably, the section deals with “beneficial interests”, which apparently relates only to an interest other than as a registered shareholder, as there should be no need to disclose legal registered ownership of shares by an individual, which is already borne out by the register of members.


- Vinod Kothari

1 comment:

sankha.nb said...

1)Provisioning relating to forward dealing and insider trading to be omitted from The Companies Act 2013, the bill proposed... is it because such provisions already exist in SEBI Act? hence, insider trading will be dealt with according to SEBI Act provisions? Is it OK (given the corporate governance issue) that is omits insider trading from the Co Act? What's the rationale?
2)Restrictions on layers of subsidiaries is removed....will there be any potential problem of round tripping/ structured transactions that violate rules(again, corporate governance issue).
3) Kindly clarify test of materialty for pecuniary interest for testing independence for directors. Kindly clarify so that a layperson can understand.

many thanks for writing this article, very insightful and informative!