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Study of newly enacted Company Act, 2013
INTRODUCTION The recently enacted Companies Act 2013 (the ‘2013 Act’) is a landmark legislation and is likely to have far-reaching consequences on all companies operating in India. While a part of the 2013 Act has already become effective.
An attempt has been made to reduce the content of the substantive portion of the related law in the Companies Act, 2013 as compared to the Companies Act, 1956 (1956 Act). In the process, much of the aforesaid content has been left, ‘to be prescribed’, in the Rules (340+) which are Page | 1
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yet to be finalised and notified. As of the date of this publication, 282 sections and 38 Rules ( which includes recently notified rule on 03.11.2014) have been notified and a few circulars have been issued clarifying the applicability of these.
Notification of Rule is still continued
even after ing the Act in August 2013. This important legislation, that has been in the making for over 10 years, started off as an effort in 2004 by the then government to make changes in Indian corporate law in the context of the changing economic and business environment and to make Indian corporate environment more transparent, simple and globally acceptable.
Since then, as this legislation has taken final
shape, it has been influenced significantly by other recent developments in the corporate sector, especially those where stakeholder interests seemed to be compromised.
The erstwhile
Companies Act 1956 (the ‘1956 Act’), which had been in existence for over fifty years, appeared to be somewhat ineffective at handling some of these present day challenges of a growing industry and the interests of an increasing class of sophisticated stakeholders.
Learning from these experiences, the 2013 Act promises to substantively ‘raise the bar on governance’ and in a comprehensive form purports to deal with relevant themes such as investor protection and fraud mitigation, inclusive agenda, auditor ability, reporting framework, director responsibility and efficient restructuring.
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OBJECTIVES
To understand the new Provisions of Company Act 2013 To understand the difference between provisions of Company Act 1956 and Company
Act 2013. To understand how new Company can be formed and its operation. To understand the benefits of Companies Act and its Cons. To understand effect of Company Act on Business environment
RESEARCH METHODOLOGY The study focuses on extensive study of Secondary data collected from various books, National Journals (ICAI & ICSI), government reports, publications from various websites which focused on various aspects of Company Act, 2013.
NEW CONCEPTS Page | 3
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One-person company: The 2013 Act introduces a new type of entity to the existing list i.e. apart from forming a public or private limited company, the 2013 Act enables the formation of a new entity a ‘one-person company’ (OPC). An OPC means a company with only one person as its member [section 3(1) of 2013 Act]. Private company: The 2013 Act introduces a change in the definition for a private company, inter-alia, the new requirement increases the limit of the number of from 50 to 200. [section 2(68) of 2013 Act]. Small company A small company has been defined as a company, other than a public company. (i) Paid-up share capital of which does not exceed 50 lakh INR or such higher amount as may be prescribed which shall not be more than five crore INR (ii) Turnover of which as per its last profit-and-loss does not exceed two crore INR or such higher amount as may be prescribed which shall not be more than 20 crore INR: Dormant company: The 2013 Act states that a company can be classified as dormant when it is formed and ed under this 2013 Act for a future project or to hold an asset or intellectual property and has no significant ing transaction. Such a company or an inactive one may apply to the ROC in such manner as may be prescribed for obtaining the status of a dormant company. [Section 455 of 2013 Act] Class Action Suit Page | 4
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A class action or a class suit is a lawsuit that allows a large number of people with a common interest in a matter to sue or be sued as a group. The concept is common in developed countries such as the US, UK and Singapore but has till now, not existed in the Indian Law. The provision of class suit gives stakeholders an edge in retrenching their rights. Mergers and acquisitions The 2013 Act has streamlined as well as introduced concepts such as reverse mergers (merger of foreign companies with Indian companies) and squeeze-out provisions, which are significant. The 2013 Act has also introduced the requirement for valuations in several cases, including mergers and acquisitions, by ed valuers. Corporate social responsibility The 2013 Act makes an effort to introduce the culture of corporate social responsibility (CSR) in Indian corporates by requiring companies to formulate a corporate social responsibility policy and at least incur a given minimum expenditure on social activities. Officer The definition of officer has been extended to include promoters and key managerial personnel [section 2(59) of 2013 Act].
Key managerial personnel The term ‘key managerial personnel’ has been defined in the 2013 Act and has been used in several sections, thus expanding the scope of persons covered by such sections [section 2(51) of 2013 Act]. Page | 5
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Promoter The term ‘promoter’ has been defined in the following ways:• A person who has been named as such in a prospectus or is identified by the company in the annual return referred to in Section 92 of 2013 Act that deals with annual return; or • who has control over the affairs of the company, directly or indirectly whether as a shareholder, director or otherwise; or • in accordance with whose advice, directions or instructions the Board of Directors of the company is accustomed to act. The proviso to this section states that sub-section (c) would not apply to a person who is acting merely in a professional capacity. [section 2(69) of 2013 Act] Independent Director So far only listed public companies were required to appoint independent directors under the listing Agreement.
Companies Act, 2013 extend such requirement to cover big public
companies also. The term’ Independent Director’ has now been defined in the 2013 Act, along with several new requirements relating to their appointment, role and responsibilities. Further some of these requirements are not in line with the corresponding requirements under the equity listing agreement [section 2(47), 149(5) of 2013 Act].
Secretarial Audit The companies Act 2013 provides for compulsory Secretarial Audit by Certain class of companies and annexing the same with the Board Report. With the introduction of Secretarial Audit, the scope of already existing compliance certificate stands widened.
The Board of Page | 6
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Directors also has to explain in its Board report to every qualification, reservation or adverse remark or disclaimer made by the Company Secretary in his Secretarial Audit Report.
IMPORTANT CHANGES /HIGHLIGHTS OF COMPANY ACT, 2013 Following are some of important changes / highlights of Company Act, 2013. 1. Setting up of a company Page | 7
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2. Share capital and debentures 3. Reporting Framework (Annual s) 4. Higher Auditor’s Responsibility 5. Wider Director and Management Responsibility 6. Corporate social responsibility 7. Investor Protection 8. Compromises, arrangements and amalgamations 9. Revival and rehabilitation of sick companies
Setting up of a company The 2013 Act specifies the mandatory content for the memorandum of association which is similar to the existing provisions of the 1956 Act.
However, as against the existing
requirement of the 1956 Act, the 2013 Act does not require the objects clause in the memorandum to be classified between the main object of the company and other company.
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The 2013 Act introduces the entrenchment provisions in respect of the articles of association of a company. An entrenchment provision enables a company to follow a more restrictive procedure than ing a special resolution for altering a specific clause of articles of association. A private company can include entrenchment provisions only if agreed by all its or, in case of a public company, if a special resolution is ed. Where a company has changed its name in the last two years, the company is required to paint, affix or print its former names along with the new name of the company on business letters, bill heads, etc. However, the 2013 Act is silent on the time limit for which the former name needs to be kept. The 2013 Act mandates inclusion of declaration to the effect that all provisions of the 1956 Act have been complied with, which is in line with the existing requirement of 1956 Act. Additionally, an affidavit from the subscribers to the memorandum and from the first directors has to be filed with the ROC, to the effect that they are not convicted of any offence in connection with promoting, forming or managing a company or have not been found guilty of any fraud or misfeasance, etc., under the 2013 Act during the last five years along with the complete details of name, address of the company, particulars of every subscriber and the persons named as first directors. The 2013 Act further prescribes that if a person furnishes false information, he or she, along with the company will be subject to penal provisions as applicable in respect of fraud i.e. section 447 of 2013 Act. The existing provisions of the 1956 Act as set out in section 149 which provide for requirement with respect to the commencement of business for public companies that have a share capital would now be applicable to all companies:
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The 2013 Act imposes additional restriction on the alteration of the object clause of the memorandum for a company which had raised money from the public for one or more objects mentioned in the prospectus and has any unutilised money. The 2013 Act includes a new section to enable the issue of depository receipts in any foreign country subject to prescribed conditions [section 41 of 2013 Act]. Currently, the provisions of section 81 of the 1956 Act relating to further issue of shares are being used in conjunction with the requirements mandated by SEBI for the issuance of depository receipts. In several aspects across the 2013 Act, it appears that the 2013 Act supplements the powers of SEBI by incorporating requirements already mandated by SEBI. The 2013 Act includes a new section under which of a company, in consultation with the board of directors, may offer a part of their holding of shares to the public. The document by which the offer of sale to the public is made will be treated as the prospectus issued by the company. The shall reimburse the company all expenses incurred by it.
Share capital and debentures
The provisions of 2013 Act regarding voting rights are similar to the existing section 87 of the 1956 Act. The only change noted in the 2013 Act is the removal of distinction provided by the 1956 Act with respect to the entitlement to vote in case the company fails to pay dividend to its cumulative and non-cumulative preference share holders.
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The 2013 Act restricts the application of securities for a certain class of companies if they fail to comply with the ing standards. The 2013 Act continues to state that securities amount can be utilised for purpose of writing off preliminary expenses.
Companies would no longer be permitted to issue shares at a discount. The only shares that could be issued at a discount are sweat equity wherein shares are issued to employees in lieu of their services.
The 2013 Act reiterates the existing requirement that a company cannot issue preference shares with a redemption date of beyond 20 years. However, it gives an exemption for cases where preference shares have been issued in respect of infrastructure projects.
The existing requirement of section 81 of the 1956 Act in regard to further issue of capital would no longer be restricted to public companies and would be applicable to private companies also. Further, the 2013 Act provides that a rights issue can also be made to the employees of the company who are under a scheme of employees’ stock option, subject to a special resolution and subject to conditions as prescribed. Further, the price of such shares should be determined using the valuation report of a ed valuer, which would be subject to conditions as prescribed.
The 2013 Act includes a new section that provides for issue of fully paid-up bonus shares out of its free reserves or the securities or the capital redemption reserve , subject to the compliance with certain conditions such as authorisation by the articles, approval in the general meeting and so on. However Section 23 does not permit private companies to issue bonus shares.
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Reporting Framework (Annual s) Mandatory requirement for Consolidated Financial Statement (CFS) The 2013 Act mandates preparation of consolidated financial statements for all companies that have one or more subsidiaries. These would be in addition to the separate financial statements and are required to be prepared in the same form and manner as the separate financial statements. For the purpose of this requirement, the word subsidiary would include associate companies and t ventures. Currently preparation of consolidated financial statements is Page | 12
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mandatory only for listed companies under the Securities and Exchange Board of India (SEBI) regulations. Preparation of consolidated financial statements now required under the 2013 Act would pose significant challenges for unlisted and private limited companies, who would be preparing consolidated financial statements for the first time. Revision in Financial Statement Under the 1956 Act, companies are generally not permitted to revise or restate financial information presented in their financial statements. Material misstatements in the s related to previous years, whether due to occurrence of fraud or error are reported as a ‘prior period adjustment’ in the financial statements of the year / period in which such misstatements are discovered. However as per New Act, if an order is ed by the court or tribunal to the effect the relevant earlier s were prepared in fraudulent manner, re-opening of s can be done. Further, If the Board feels that the financials or the Report do not comply with the applicable provisions of clause 129 or 134, they may revise the aforesaid in respect of any of the three preceding financial years after obtaining approval of the Tribunal.
Financial Year to be uniform The 2013 Act also requires all companies to adopt a uniform financial year of 1 April to 31 March with limited exception to a company which is a holding company or subsidiary of a company incorporated outside which may be required to follow a different financial year for consolidation outside India. Changes in Depreciation regulation Schedule II to the 2013 Act requires systematic allocation of the depreciable amount of an asset over its useful life unlike Schedule XIV of the Act (which specifies minimum rates of Page | 13
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depreciation to be provided by a company). The depreciable amount is defined as the cost of an asset, or other amount substituted for cost, less its residual value.
‘Useful life’ may be
considered as a period over which an asset is available for use or as the number of production or similar units expected to be obtained from the asset by the entity. Amortisation of intangible assets should be in accordance with notified ing standards and is not specified in the 2013 Act. Mandatory Internal Audit Class/classes of companies to be prescribed in this behalf to mandatorily appoint an internal auditor who shall be a chartered ant or a cost ant or such other professional as may be decided by the Board. The objective of introduction of this requirement is to strengthen the system of internal controls in the wake of allegations of recent corporate frauds.
Internal financial controls reporting The 2013 Act also requires the Directors Report for listed companies and Auditors Report for all companies to comment on whether the company has adequate internal financial controls system in place and operating effectiveness of such controls. Other Important Provisions Companies permitted to keep books of or other relevant papers in electronic mode in the prescribed manner. The draft rules add that such electronic books shall remain accessible in India for future reference. Page | 14
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Annual financial statements of every company (except one person company, small company or dormant company) to include a cash flow statement also. The existing regulatory regime governing transfer of a specified percentage of profits to reserves before declaring dividends dispensed with. However, declaration of dividends out of reserves to be subject to rules as may be prescribed. Companies will be allowed to declare dividends out of their current profits even when they have substantial accumulated losses of earlier years.
Higher Auditor ability Auditor Appointment and Rotation As per the 2013 Act, instead of the present provision of appointment from one AGM to the next, individual or a firm to be appointed as auditor for a five-year term. Change of auditors before the five year term would require special resolution after obtaining the previous approval of the Central Government. Further the auditor concerned would have to be given a reasonable opportunity of being heard. However the appointment has to be ratified at every AGM. If the
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appointment is not ratified, it appears that the process for change of auditor would have to be followed. Listed companies or companies belonging to such class of companies as may be prescribed cannot appoint or reappoint an audit firm (including an LLP) as auditor for more than two consecutive of five years each (in case of an individual there would be one term of five years). Non-audit services Company Act, 2013 provides Prohibition on auditor rendering specified non-audit services to the auditee company/ its subsidiary/holding company e.g. ing and book keeping services, internal audit, design and implementation of any financial information system, investment advisory services, investment banking services, management services etc. Auditors’ report The reporting requirements have been extended. Further, the Central Government, in consultation with National Financial Reporting Authority, may direct inclusion of specified matters for specified class/description of companies. As per the Act, the auditor has to report: • Where the company has failed to provide any information and explanations, the details of the same and their effect on financial statements. • Whether the company has adequate internal financial controls in place and the operating effectiveness of such controls. • Observations or comments on financial transactions or matters which have any adverse effect on the functioning of the company.
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• Any qualification, reservation or adverse remark relating to the maintenance of s and other matters connected therewith (this is in addition to the assertion relation to maintenance of proper books of ). Reporting on Fraud If in the course of performance of his duties as auditor, the auditor has reason to believe that an offence involving certain fraud is being or has been committed against the company by officers or employees, the matter should be reported to the Central Government within the prescribed time and manner. Auditing standards Auditing standards have been given legal recognition under the Act which requires that every auditor shall comply with the auditing standards notified by Central Government. The Central Government may prescribe the standards of auditing as recommended by the Institute of Chartered ants of India (ICAI), in consultation with and after examination of the recommendations made by the National Financial Reporting Authority National Financial Reporting Authority An independent authority, viz. National Financial Reporting Authority (NFRA) to be constituted to make recommendations to Central Government on formulation and laying down of ing and auditing policies and standards, monitor and enforce compliance therewith and oversee the quality of service of relevant professions. NFRA has been vested with quasi judicial powers to investigate matters of professional or other misconduct (as defined in CA Act) by chartered ants ‘for such class of bodies corporate or persons’ as may be prescribed. At present matters relating to professional or other misconduct are handled by the Institute of Chartered ants of India. The new provisions would raise a number of practical issues Page | 17
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apart from questioning the validity of the concept that a professional should be judged by his peers.
Wider Director and Management Responsibility The 2013 Act increases the limit for number of directorships that can be held by an individual from 12 to 15 [section 149(1) of 2013 Act].3. One director to be resident in India. Every company shall have at least one Director who has stayed in India for a total period of not less than 182 days in the previous calendar year. In prescribed class or classes of companies, there should be 1 women director.
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Study of newly enacted Company Act, 2013
One of the significant aspects of the 2013 Act is the effort made towards incorporating some of the salient requirements mandated by the SEBI in clause 49 of the listing agreement in the 2013 Act itself. To this effect, the 2013 Act requires every listed public company to have at least one-third of the total number of directors as independent directors. The 2013 Act includes Schedule IV ‘Code for Independent Directors’ (Code) which broadly prescribes the conduct for independent directors. In order to discourage inappropriate practices, the 2013 Act states that any person who fails to get elected as a director in the general meeting can no longer be appointed as an additional director by the board of directors The requirements relating to audit committees was first introduced by the Companies (Amendment) Act, 2000. As per the 2013 Act, the audit committee should have majority of independent directors.
Chairman of the audit committee need not be an independent
director. A majority of the of the audit committee should be financially literate, i,e. should have the ability to read and understand the financial statements. Company Act, 2013 provides for mandatory constitution of Nomination and Remuneration Committee and Stakeholders’ Relationship Committee for prescribed companies. The 2013 Act prescribes similar requirements with respect to the disclosure of interest by the director as contained in the existing section 299 of the 1956 Act. The only change that could be identified is where a contract or arrangement entered into by the company without disclosure of interest by director or with participation by a director who is concerned or interested in any way, directly or indirectly, in the contract or arrangement, shall be voidable at the option of the company.
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Every company belonging to such class of description of companies as may be prescribed shall have MD or CEO or Manager and in their absence, a WTD and a Company Secretary. Individual not to be the Chairman of the Co. as well as the MD or CEO of the Co. at the same time. The 2013 Act provides for mandatory appointment of following whole time key managerial personnel for every listed company and every other company having a paid-up share capital of five crore INR or more*: (i) Managing director, or chief executive officer or manager and in their absence, a whole-time director (ii) Company secretary (iii) Chief financial officer
Corporate social responsibility The Ministry of Corporate Affairs (MCA) had introduced the Corporate Social Responsibility Voluntary Guidelines in 2009. These guidelines have now been incorporated within the 2013 Act and have obtained legal sanctity. Section 135 of the 2013 Act, seeks to provide that every company having a net worth of 500 crore INR, or more or a turnover of 1000 crore INR or more, or a net profit of five crore INR or more, during any financial year shall constitute the corporate social responsibility committee of the board.
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As per Section 135 of the Act, companies with a specified net worth or turnover or net profit are required to mandatorily spend 2 percent of average net profits of last 3 years to be spent on CSR activities, otherwise reason for not spending to be given in Board's Report. Under the draft CSR rules, net profit is defined to mean ‘net profit before tax’ as per books of s and shall not include profits arising from branches outside India. Every qualifying company needs to constitute a CSR committee of the Board consisting of 3 or more directors. The mandate of the said CSR committee shall be: To formulate and recommend a CSR policy to the Board; To recommend amount of expenditure to be incurred on CSR activities; To monitor the CSR policy of the company from time to time. The Board of every qualifying company is required to hold following responsibilities: To approve the CSR policy recommended by the CSR committee and disclose the contents of such policy in its report and place it on company’s website; To ensure the CSR activities are undertaken by the company; To ensure 2 percent spending on CSR activities; To report CSR activities in Board’s report and disclose non-compliance (if any) with the CSR provisions.
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The draft CSR rules provide the format in which all qualifying companies shall report the details of their CSR initiatives in the Director’s report and in the company’s website Activities which may be considered as eligible CSR spend are provided in Schedule VII of the Act. The specified activities are as under: Environment sustainability Empowering women and promoting gender equality Education Poverty reduction and eradicating hunger Social business projects Reducing child mortality & improving maternal health Improvement of health Imparting of vocational skills Contribution towards Central & State Government funds for socioeconomic development and relief Such other matters as may be prescribed The companies shall give preference to the local area and area around it where it operates for spending the amounts earmarked for CSR activities. CSR projects / programs may also focus on integrating business models with social and environmental priorities and processes in order to create shared value. Page | 22
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CSR activities shall not include activities exclusively for the benefit of employees and their family . Companies may also collaborate or pool resources with other companies to undertake CSR activities.
Investor Protection The Companies Act, 2013 has made significant amendments vis-à-vis related party transactions making this a significant focus area. The responsibilities are rather onerous with strict consequences in cases of non-compliance. The transactions of a company with its related parties which are not in the ordinary course of business and which are not arm’s length would require the consent of the Board of Directors of the Company. Page | 23
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The scope of related Parties transactions has widened which now includes leasing of property, appointment of agent for the sale or purchase, related party’s appointment to any office or place of profit in the company, its subsidiary or associate company. Provisions relating to caps on inter corporate loans and investments extended to include loan to any person. The rate of interest on inter corporate loans not to be lower than the prevailing yield of one year, three year, five year or ten year Government security closest to the tenor of the loan. Loans (as also guarantees/securities in respect thereof) and investments by a private company or by a holding company to or in its wholly owned subsidiary would also be covered by the provisions. The concept of class action suits introduced empowering a specified number of shareholders and depositors to take legal action in case of any fraudulent action by the company or if the affairs of the company are being conducted in a manner prejudicial to the interests of the company or its or depositors. Class actions suits have been prevalent in US, Australia and some EU countries. The provision is a significant step towards protecting shareholders and depositors. Specific definition of fraud has been introduced.
Fraud includes any act, omission,
concealment of any fact or abuse of position committed by any person, with intent to deceive, to gain undue advantage from, or to injure the interests of, the company or its shareholders or its creditors or any other person, whether or not there is any wrongful gain or wrongful loss.
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Compromises, arrangements and amalgamations The 2013 Act features some new provisions in the area of mergers and acquisitions, apart from making certain changes from the existing provisions. While the changes are aimed at simplifying and rationalising the procedures involved, the new provisions are also aimed at ensuring higher ability for the company and majority shareholders and increasing flexibility for corporate. The section dealing with compromises and arrangements, deals comprehensively with all forms of compromises as well as arrangements, and extends to the reduction of share capital, Page | 25
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buy-back, takeovers and corporate debt restructuring as well. Another positive inclusion within this section is that objection to any compromise or arrangement can now be made only by persons holding not less than 10% of share holding or having an outstanding debt amounting to not less than 5% of the total outstanding debt as per the latest audited financial statements The current procedural requirements in case of a merger and acquisition in any form are quite cumbersome and complex. There are no exemptions even in the case of mergers between a company and its wholly owned subsidiaries. The 2013 Act now introduces simplification of procedures in two areas, firstly, for holding wholly owned subsidiaries and secondly, for arrangements between small companies (section 233 of the 2013 Act). Small companies is a new category of companies, introduced within the 2013 Act, with defined capital and turnover thresholds, which has been given certain benefits, including simplified procedures. The 1956 Act, allows the merger of a foreign company with an Indian company, but does not allow the reverse situation of merger of an Indian company with a foreign company. The 2013 Act now allows this flexibility, with a rider that any such mergers can be effected only with respect to companies incorporated within specific countries, the names of which will be notified by the central government. With prior approval of the central government, companies are now allowed to pay the consideration for such mergers either in cash or in depository receipts or partly in cash and partly in depository receipts as agreed upon in the scheme of arrangement. (section 234 of the 2013 Act). These new provisions can be greatly beneficial to Indian companies which have a global presence by providing them structuring options which do not exist currently. The 2013 Act has introduced new provisions for enabling the acquirer of a company (holding 90% or more shares) by way of amalgamation, share exchange, etc to acquire shares from the Page | 26
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minority holders subject to compliance with certain conditions. This has also introduced the requirement for ‘ed valuers’, since the price to be offered by majority shareholder needs to be determined on the basis of valuation by a ed valuer (section 236 of the 2013 Act).
Revival and rehabilitation of sick companies Chapter XIX of the 2013 Act lays down the provisions for the revival and rehabilitation of sick companies. The chapter describes the circumstances which determine the declaration of a company as a sick company, and also includes the rehabilitation process of the same. Although it aims to provide comprehensive provisions for the revival and rehabilitation of sick companies, the fact that several provisions such as particulars, documents as well as content of the draft scheme in respect of application for revival and rehabilitation, etc. have been left to substantive enactment, leaves scope for interpretation.
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The coverage of Sick Industrial Companies Act, 1985 (SICA) is limited to only industrial companies, while the 2013 Act covers the revival and rehabilitation of all companies, irrespective of their sector. The determination of whether a company is sick, would no longer be based on a situation where accumulated losses exceed the net worth. Rather it would be determined on the basis whether the company is able to pay its debts. In other words, the determining factor of a sick company has now been shifted to the secured creditors or banks and financial institutions with regard to the assessment of a company as a sick company. The 2013 Act does not recognise the role of all stakeholders in the revival and rehabilitation of a sick company, and provisions predominantly revolve around secured creditors. The fact that the 2013 Act recognises the presence of unsecured creditors, is felt only at the time of the approval of the scheme of revival and rehabilitation. In accordance with the requirement of section 253 of the 2013 Act, a company is assessed to be sick on a demand by the secured creditors of a company representing 50% or more of its outstanding amount of debt under the following circumstances: The company has failed to pay the debt within a period of 30 days of the service of the notice of demand The company has failed to secure or compound the debt to the reasonable satisfaction of the creditors To speed up the revival and rehabilitation process, the 2013 Act provides a one year time period for the finalisation of the rehabilitation plan.
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SHORTCOMINGS IN THE NEW COMPANIES BILL After more than 10 years of discussions, drafting and delays, and five different ministers heading it, the government has been able to replace the 57-year-old law with new definitions and a host of other things. However, there are certain shortcomings in the New Bill which can be read as follows: 1. Independent directors: There are pitfalls in the provision of Independent Directors for three reasons. Firstly, how independent can Independent Directors be when they are appointed and paid for by the promoters? Will promoters appoint truly independent people on boards? Secondly, are there enough persons available to be appointed as Independent Directors? Once the prospective person is told about the responsibilities he will have to bear, the actual number of competent and willing Independent Directors diminishes. Most Independent Page | 29
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Directors diminish; in fact, end up adorning corporate boards without the time or commitment to work in the interests of shareholders. Third, if eligible Independent Directors end up taking up 20 directorships each, how can they really serve each of those companies’ shareholders diligently? To sum it up, although the concept of Independent Directors is good, corporate governance will need to have a heavy dose of regulation.
2. Corporate social responsibility: The New Companies Bill makes no effort whatsoever to define CSR. The only obligation is to set aside the funds, form a committee, formulate a CSR policy, and spend the cash. If don’t spend the money, they will have to explain the reason for not doing it in the annual report.
3. Excessive bureaucracy: In order to make directors able, the new Companies Bill mandates that every director shall himself or herself with the government and obtain a Director Identification Number (DIN). Like the UID, which is supposed to give every Indian resident a unique identity and prevent fraud, the DIN will enable the government to monitor the number of directorships any person holds and also his/her track record. Considering India’s track record, where bureaucratic supervision of corporate affairs more often than not leads to corruption and bribery, how many directors will want to risk being on the government’s watch list? Will DIN discourage more competent people from taking up directorships or encourage them?
4. Class action suits: The best new provision in the Companies Bill is the enabling of tort action and class action suits. The most important point is whether shareholders of government-owned companies can sue the government for squashing minority interests. It is worth recalling that Coal India has been sued by a minority shareholder (The Children’s Page | 30
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Investment Fund) for following the government’s diktat to lower coal prices in 2012. There is plentiful scope for class action suits against ONGC, Oil India and GAIL, which are subsidizing losses in the oil marketing companies. Class action suits have to be filed before the National Company Law Tribunal first, but banking companies are excluded from such action.
CONCLUSION The new Companies Act 2013 is a welcome step. It is more stringent and requires strict compliance by corporate sector. The non compliance or irregularity in compliances may attract heavy penalties. The Companies Act, 2013 marks a paradigm shift in India’s corporate law regime, and has far reaching implications for both domestic Indian companies and overseas investors with a presence in India. Some provisions, however, continue to remain inoperative and are likely to be made effective by the Indian government in due course. This piece makes it easier to understand the changes in the 2013 Act that affect multinational corporations having Indian companies or those looking to make investments in India.
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REFERENCES Helps from M/s. Ankit Chokshi & Co., A Chartered ant Firm Website of Ministry of Corporate Affairs Journal of ICSI as well as ICAI Report of PWC Firm on Company Act, 2013 Report of KPMG on Company Act, 2013.
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INTRODUCTION The recently enacted Companies Act 2013 (the ‘2013 Act’) is a landmark legislation and is likely to have far-reaching consequences on all companies operating in India. While a part of the 2013 Act has already become effective.
An attempt has been made to reduce the content of the substantive portion of the related law in the Companies Act, 2013 as compared to the Companies Act, 1956 (1956 Act). In the process, much of the aforesaid content has been left, ‘to be prescribed’, in the Rules (340+) which are Page | 1
Study of newly enacted Company Act, 2013
yet to be finalised and notified. As of the date of this publication, 282 sections and 38 Rules ( which includes recently notified rule on 03.11.2014) have been notified and a few circulars have been issued clarifying the applicability of these.
Notification of Rule is still continued
even after ing the Act in August 2013. This important legislation, that has been in the making for over 10 years, started off as an effort in 2004 by the then government to make changes in Indian corporate law in the context of the changing economic and business environment and to make Indian corporate environment more transparent, simple and globally acceptable.
Since then, as this legislation has taken final
shape, it has been influenced significantly by other recent developments in the corporate sector, especially those where stakeholder interests seemed to be compromised.
The erstwhile
Companies Act 1956 (the ‘1956 Act’), which had been in existence for over fifty years, appeared to be somewhat ineffective at handling some of these present day challenges of a growing industry and the interests of an increasing class of sophisticated stakeholders.
Learning from these experiences, the 2013 Act promises to substantively ‘raise the bar on governance’ and in a comprehensive form purports to deal with relevant themes such as investor protection and fraud mitigation, inclusive agenda, auditor ability, reporting framework, director responsibility and efficient restructuring.
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OBJECTIVES
To understand the new Provisions of Company Act 2013 To understand the difference between provisions of Company Act 1956 and Company
Act 2013. To understand how new Company can be formed and its operation. To understand the benefits of Companies Act and its Cons. To understand effect of Company Act on Business environment
RESEARCH METHODOLOGY The study focuses on extensive study of Secondary data collected from various books, National Journals (ICAI & ICSI), government reports, publications from various websites which focused on various aspects of Company Act, 2013.
NEW CONCEPTS Page | 3
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One-person company: The 2013 Act introduces a new type of entity to the existing list i.e. apart from forming a public or private limited company, the 2013 Act enables the formation of a new entity a ‘one-person company’ (OPC). An OPC means a company with only one person as its member [section 3(1) of 2013 Act]. Private company: The 2013 Act introduces a change in the definition for a private company, inter-alia, the new requirement increases the limit of the number of from 50 to 200. [section 2(68) of 2013 Act]. Small company A small company has been defined as a company, other than a public company. (i) Paid-up share capital of which does not exceed 50 lakh INR or such higher amount as may be prescribed which shall not be more than five crore INR (ii) Turnover of which as per its last profit-and-loss does not exceed two crore INR or such higher amount as may be prescribed which shall not be more than 20 crore INR: Dormant company: The 2013 Act states that a company can be classified as dormant when it is formed and ed under this 2013 Act for a future project or to hold an asset or intellectual property and has no significant ing transaction. Such a company or an inactive one may apply to the ROC in such manner as may be prescribed for obtaining the status of a dormant company. [Section 455 of 2013 Act] Class Action Suit Page | 4
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A class action or a class suit is a lawsuit that allows a large number of people with a common interest in a matter to sue or be sued as a group. The concept is common in developed countries such as the US, UK and Singapore but has till now, not existed in the Indian Law. The provision of class suit gives stakeholders an edge in retrenching their rights. Mergers and acquisitions The 2013 Act has streamlined as well as introduced concepts such as reverse mergers (merger of foreign companies with Indian companies) and squeeze-out provisions, which are significant. The 2013 Act has also introduced the requirement for valuations in several cases, including mergers and acquisitions, by ed valuers. Corporate social responsibility The 2013 Act makes an effort to introduce the culture of corporate social responsibility (CSR) in Indian corporates by requiring companies to formulate a corporate social responsibility policy and at least incur a given minimum expenditure on social activities. Officer The definition of officer has been extended to include promoters and key managerial personnel [section 2(59) of 2013 Act].
Key managerial personnel The term ‘key managerial personnel’ has been defined in the 2013 Act and has been used in several sections, thus expanding the scope of persons covered by such sections [section 2(51) of 2013 Act]. Page | 5
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Promoter The term ‘promoter’ has been defined in the following ways:• A person who has been named as such in a prospectus or is identified by the company in the annual return referred to in Section 92 of 2013 Act that deals with annual return; or • who has control over the affairs of the company, directly or indirectly whether as a shareholder, director or otherwise; or • in accordance with whose advice, directions or instructions the Board of Directors of the company is accustomed to act. The proviso to this section states that sub-section (c) would not apply to a person who is acting merely in a professional capacity. [section 2(69) of 2013 Act] Independent Director So far only listed public companies were required to appoint independent directors under the listing Agreement.
Companies Act, 2013 extend such requirement to cover big public
companies also. The term’ Independent Director’ has now been defined in the 2013 Act, along with several new requirements relating to their appointment, role and responsibilities. Further some of these requirements are not in line with the corresponding requirements under the equity listing agreement [section 2(47), 149(5) of 2013 Act].
Secretarial Audit The companies Act 2013 provides for compulsory Secretarial Audit by Certain class of companies and annexing the same with the Board Report. With the introduction of Secretarial Audit, the scope of already existing compliance certificate stands widened.
The Board of Page | 6
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Directors also has to explain in its Board report to every qualification, reservation or adverse remark or disclaimer made by the Company Secretary in his Secretarial Audit Report.
IMPORTANT CHANGES /HIGHLIGHTS OF COMPANY ACT, 2013 Following are some of important changes / highlights of Company Act, 2013. 1. Setting up of a company Page | 7
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2. Share capital and debentures 3. Reporting Framework (Annual s) 4. Higher Auditor’s Responsibility 5. Wider Director and Management Responsibility 6. Corporate social responsibility 7. Investor Protection 8. Compromises, arrangements and amalgamations 9. Revival and rehabilitation of sick companies
Setting up of a company The 2013 Act specifies the mandatory content for the memorandum of association which is similar to the existing provisions of the 1956 Act.
However, as against the existing
requirement of the 1956 Act, the 2013 Act does not require the objects clause in the memorandum to be classified between the main object of the company and other company.
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The 2013 Act introduces the entrenchment provisions in respect of the articles of association of a company. An entrenchment provision enables a company to follow a more restrictive procedure than ing a special resolution for altering a specific clause of articles of association. A private company can include entrenchment provisions only if agreed by all its or, in case of a public company, if a special resolution is ed. Where a company has changed its name in the last two years, the company is required to paint, affix or print its former names along with the new name of the company on business letters, bill heads, etc. However, the 2013 Act is silent on the time limit for which the former name needs to be kept. The 2013 Act mandates inclusion of declaration to the effect that all provisions of the 1956 Act have been complied with, which is in line with the existing requirement of 1956 Act. Additionally, an affidavit from the subscribers to the memorandum and from the first directors has to be filed with the ROC, to the effect that they are not convicted of any offence in connection with promoting, forming or managing a company or have not been found guilty of any fraud or misfeasance, etc., under the 2013 Act during the last five years along with the complete details of name, address of the company, particulars of every subscriber and the persons named as first directors. The 2013 Act further prescribes that if a person furnishes false information, he or she, along with the company will be subject to penal provisions as applicable in respect of fraud i.e. section 447 of 2013 Act. The existing provisions of the 1956 Act as set out in section 149 which provide for requirement with respect to the commencement of business for public companies that have a share capital would now be applicable to all companies:
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The 2013 Act imposes additional restriction on the alteration of the object clause of the memorandum for a company which had raised money from the public for one or more objects mentioned in the prospectus and has any unutilised money. The 2013 Act includes a new section to enable the issue of depository receipts in any foreign country subject to prescribed conditions [section 41 of 2013 Act]. Currently, the provisions of section 81 of the 1956 Act relating to further issue of shares are being used in conjunction with the requirements mandated by SEBI for the issuance of depository receipts. In several aspects across the 2013 Act, it appears that the 2013 Act supplements the powers of SEBI by incorporating requirements already mandated by SEBI. The 2013 Act includes a new section under which of a company, in consultation with the board of directors, may offer a part of their holding of shares to the public. The document by which the offer of sale to the public is made will be treated as the prospectus issued by the company. The shall reimburse the company all expenses incurred by it.
Share capital and debentures
The provisions of 2013 Act regarding voting rights are similar to the existing section 87 of the 1956 Act. The only change noted in the 2013 Act is the removal of distinction provided by the 1956 Act with respect to the entitlement to vote in case the company fails to pay dividend to its cumulative and non-cumulative preference share holders.
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The 2013 Act restricts the application of securities for a certain class of companies if they fail to comply with the ing standards. The 2013 Act continues to state that securities amount can be utilised for purpose of writing off preliminary expenses.
Companies would no longer be permitted to issue shares at a discount. The only shares that could be issued at a discount are sweat equity wherein shares are issued to employees in lieu of their services.
The 2013 Act reiterates the existing requirement that a company cannot issue preference shares with a redemption date of beyond 20 years. However, it gives an exemption for cases where preference shares have been issued in respect of infrastructure projects.
The existing requirement of section 81 of the 1956 Act in regard to further issue of capital would no longer be restricted to public companies and would be applicable to private companies also. Further, the 2013 Act provides that a rights issue can also be made to the employees of the company who are under a scheme of employees’ stock option, subject to a special resolution and subject to conditions as prescribed. Further, the price of such shares should be determined using the valuation report of a ed valuer, which would be subject to conditions as prescribed.
The 2013 Act includes a new section that provides for issue of fully paid-up bonus shares out of its free reserves or the securities or the capital redemption reserve , subject to the compliance with certain conditions such as authorisation by the articles, approval in the general meeting and so on. However Section 23 does not permit private companies to issue bonus shares.
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Reporting Framework (Annual s) Mandatory requirement for Consolidated Financial Statement (CFS) The 2013 Act mandates preparation of consolidated financial statements for all companies that have one or more subsidiaries. These would be in addition to the separate financial statements and are required to be prepared in the same form and manner as the separate financial statements. For the purpose of this requirement, the word subsidiary would include associate companies and t ventures. Currently preparation of consolidated financial statements is Page | 12
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mandatory only for listed companies under the Securities and Exchange Board of India (SEBI) regulations. Preparation of consolidated financial statements now required under the 2013 Act would pose significant challenges for unlisted and private limited companies, who would be preparing consolidated financial statements for the first time. Revision in Financial Statement Under the 1956 Act, companies are generally not permitted to revise or restate financial information presented in their financial statements. Material misstatements in the s related to previous years, whether due to occurrence of fraud or error are reported as a ‘prior period adjustment’ in the financial statements of the year / period in which such misstatements are discovered. However as per New Act, if an order is ed by the court or tribunal to the effect the relevant earlier s were prepared in fraudulent manner, re-opening of s can be done. Further, If the Board feels that the financials or the Report do not comply with the applicable provisions of clause 129 or 134, they may revise the aforesaid in respect of any of the three preceding financial years after obtaining approval of the Tribunal.
Financial Year to be uniform The 2013 Act also requires all companies to adopt a uniform financial year of 1 April to 31 March with limited exception to a company which is a holding company or subsidiary of a company incorporated outside which may be required to follow a different financial year for consolidation outside India. Changes in Depreciation regulation Schedule II to the 2013 Act requires systematic allocation of the depreciable amount of an asset over its useful life unlike Schedule XIV of the Act (which specifies minimum rates of Page | 13
Study of newly enacted Company Act, 2013
depreciation to be provided by a company). The depreciable amount is defined as the cost of an asset, or other amount substituted for cost, less its residual value.
‘Useful life’ may be
considered as a period over which an asset is available for use or as the number of production or similar units expected to be obtained from the asset by the entity. Amortisation of intangible assets should be in accordance with notified ing standards and is not specified in the 2013 Act. Mandatory Internal Audit Class/classes of companies to be prescribed in this behalf to mandatorily appoint an internal auditor who shall be a chartered ant or a cost ant or such other professional as may be decided by the Board. The objective of introduction of this requirement is to strengthen the system of internal controls in the wake of allegations of recent corporate frauds.
Internal financial controls reporting The 2013 Act also requires the Directors Report for listed companies and Auditors Report for all companies to comment on whether the company has adequate internal financial controls system in place and operating effectiveness of such controls. Other Important Provisions Companies permitted to keep books of or other relevant papers in electronic mode in the prescribed manner. The draft rules add that such electronic books shall remain accessible in India for future reference. Page | 14
Study of newly enacted Company Act, 2013
Annual financial statements of every company (except one person company, small company or dormant company) to include a cash flow statement also. The existing regulatory regime governing transfer of a specified percentage of profits to reserves before declaring dividends dispensed with. However, declaration of dividends out of reserves to be subject to rules as may be prescribed. Companies will be allowed to declare dividends out of their current profits even when they have substantial accumulated losses of earlier years.
Higher Auditor ability Auditor Appointment and Rotation As per the 2013 Act, instead of the present provision of appointment from one AGM to the next, individual or a firm to be appointed as auditor for a five-year term. Change of auditors before the five year term would require special resolution after obtaining the previous approval of the Central Government. Further the auditor concerned would have to be given a reasonable opportunity of being heard. However the appointment has to be ratified at every AGM. If the
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Study of newly enacted Company Act, 2013
appointment is not ratified, it appears that the process for change of auditor would have to be followed. Listed companies or companies belonging to such class of companies as may be prescribed cannot appoint or reappoint an audit firm (including an LLP) as auditor for more than two consecutive of five years each (in case of an individual there would be one term of five years). Non-audit services Company Act, 2013 provides Prohibition on auditor rendering specified non-audit services to the auditee company/ its subsidiary/holding company e.g. ing and book keeping services, internal audit, design and implementation of any financial information system, investment advisory services, investment banking services, management services etc. Auditors’ report The reporting requirements have been extended. Further, the Central Government, in consultation with National Financial Reporting Authority, may direct inclusion of specified matters for specified class/description of companies. As per the Act, the auditor has to report: • Where the company has failed to provide any information and explanations, the details of the same and their effect on financial statements. • Whether the company has adequate internal financial controls in place and the operating effectiveness of such controls. • Observations or comments on financial transactions or matters which have any adverse effect on the functioning of the company.
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• Any qualification, reservation or adverse remark relating to the maintenance of s and other matters connected therewith (this is in addition to the assertion relation to maintenance of proper books of ). Reporting on Fraud If in the course of performance of his duties as auditor, the auditor has reason to believe that an offence involving certain fraud is being or has been committed against the company by officers or employees, the matter should be reported to the Central Government within the prescribed time and manner. Auditing standards Auditing standards have been given legal recognition under the Act which requires that every auditor shall comply with the auditing standards notified by Central Government. The Central Government may prescribe the standards of auditing as recommended by the Institute of Chartered ants of India (ICAI), in consultation with and after examination of the recommendations made by the National Financial Reporting Authority National Financial Reporting Authority An independent authority, viz. National Financial Reporting Authority (NFRA) to be constituted to make recommendations to Central Government on formulation and laying down of ing and auditing policies and standards, monitor and enforce compliance therewith and oversee the quality of service of relevant professions. NFRA has been vested with quasi judicial powers to investigate matters of professional or other misconduct (as defined in CA Act) by chartered ants ‘for such class of bodies corporate or persons’ as may be prescribed. At present matters relating to professional or other misconduct are handled by the Institute of Chartered ants of India. The new provisions would raise a number of practical issues Page | 17
Study of newly enacted Company Act, 2013
apart from questioning the validity of the concept that a professional should be judged by his peers.
Wider Director and Management Responsibility The 2013 Act increases the limit for number of directorships that can be held by an individual from 12 to 15 [section 149(1) of 2013 Act].3. One director to be resident in India. Every company shall have at least one Director who has stayed in India for a total period of not less than 182 days in the previous calendar year. In prescribed class or classes of companies, there should be 1 women director.
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One of the significant aspects of the 2013 Act is the effort made towards incorporating some of the salient requirements mandated by the SEBI in clause 49 of the listing agreement in the 2013 Act itself. To this effect, the 2013 Act requires every listed public company to have at least one-third of the total number of directors as independent directors. The 2013 Act includes Schedule IV ‘Code for Independent Directors’ (Code) which broadly prescribes the conduct for independent directors. In order to discourage inappropriate practices, the 2013 Act states that any person who fails to get elected as a director in the general meeting can no longer be appointed as an additional director by the board of directors The requirements relating to audit committees was first introduced by the Companies (Amendment) Act, 2000. As per the 2013 Act, the audit committee should have majority of independent directors.
Chairman of the audit committee need not be an independent
director. A majority of the of the audit committee should be financially literate, i,e. should have the ability to read and understand the financial statements. Company Act, 2013 provides for mandatory constitution of Nomination and Remuneration Committee and Stakeholders’ Relationship Committee for prescribed companies. The 2013 Act prescribes similar requirements with respect to the disclosure of interest by the director as contained in the existing section 299 of the 1956 Act. The only change that could be identified is where a contract or arrangement entered into by the company without disclosure of interest by director or with participation by a director who is concerned or interested in any way, directly or indirectly, in the contract or arrangement, shall be voidable at the option of the company.
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Every company belonging to such class of description of companies as may be prescribed shall have MD or CEO or Manager and in their absence, a WTD and a Company Secretary. Individual not to be the Chairman of the Co. as well as the MD or CEO of the Co. at the same time. The 2013 Act provides for mandatory appointment of following whole time key managerial personnel for every listed company and every other company having a paid-up share capital of five crore INR or more*: (i) Managing director, or chief executive officer or manager and in their absence, a whole-time director (ii) Company secretary (iii) Chief financial officer
Corporate social responsibility The Ministry of Corporate Affairs (MCA) had introduced the Corporate Social Responsibility Voluntary Guidelines in 2009. These guidelines have now been incorporated within the 2013 Act and have obtained legal sanctity. Section 135 of the 2013 Act, seeks to provide that every company having a net worth of 500 crore INR, or more or a turnover of 1000 crore INR or more, or a net profit of five crore INR or more, during any financial year shall constitute the corporate social responsibility committee of the board.
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As per Section 135 of the Act, companies with a specified net worth or turnover or net profit are required to mandatorily spend 2 percent of average net profits of last 3 years to be spent on CSR activities, otherwise reason for not spending to be given in Board's Report. Under the draft CSR rules, net profit is defined to mean ‘net profit before tax’ as per books of s and shall not include profits arising from branches outside India. Every qualifying company needs to constitute a CSR committee of the Board consisting of 3 or more directors. The mandate of the said CSR committee shall be: To formulate and recommend a CSR policy to the Board; To recommend amount of expenditure to be incurred on CSR activities; To monitor the CSR policy of the company from time to time. The Board of every qualifying company is required to hold following responsibilities: To approve the CSR policy recommended by the CSR committee and disclose the contents of such policy in its report and place it on company’s website; To ensure the CSR activities are undertaken by the company; To ensure 2 percent spending on CSR activities; To report CSR activities in Board’s report and disclose non-compliance (if any) with the CSR provisions.
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The draft CSR rules provide the format in which all qualifying companies shall report the details of their CSR initiatives in the Director’s report and in the company’s website Activities which may be considered as eligible CSR spend are provided in Schedule VII of the Act. The specified activities are as under: Environment sustainability Empowering women and promoting gender equality Education Poverty reduction and eradicating hunger Social business projects Reducing child mortality & improving maternal health Improvement of health Imparting of vocational skills Contribution towards Central & State Government funds for socioeconomic development and relief Such other matters as may be prescribed The companies shall give preference to the local area and area around it where it operates for spending the amounts earmarked for CSR activities. CSR projects / programs may also focus on integrating business models with social and environmental priorities and processes in order to create shared value. Page | 22
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CSR activities shall not include activities exclusively for the benefit of employees and their family . Companies may also collaborate or pool resources with other companies to undertake CSR activities.
Investor Protection The Companies Act, 2013 has made significant amendments vis-à-vis related party transactions making this a significant focus area. The responsibilities are rather onerous with strict consequences in cases of non-compliance. The transactions of a company with its related parties which are not in the ordinary course of business and which are not arm’s length would require the consent of the Board of Directors of the Company. Page | 23
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The scope of related Parties transactions has widened which now includes leasing of property, appointment of agent for the sale or purchase, related party’s appointment to any office or place of profit in the company, its subsidiary or associate company. Provisions relating to caps on inter corporate loans and investments extended to include loan to any person. The rate of interest on inter corporate loans not to be lower than the prevailing yield of one year, three year, five year or ten year Government security closest to the tenor of the loan. Loans (as also guarantees/securities in respect thereof) and investments by a private company or by a holding company to or in its wholly owned subsidiary would also be covered by the provisions. The concept of class action suits introduced empowering a specified number of shareholders and depositors to take legal action in case of any fraudulent action by the company or if the affairs of the company are being conducted in a manner prejudicial to the interests of the company or its or depositors. Class actions suits have been prevalent in US, Australia and some EU countries. The provision is a significant step towards protecting shareholders and depositors. Specific definition of fraud has been introduced.
Fraud includes any act, omission,
concealment of any fact or abuse of position committed by any person, with intent to deceive, to gain undue advantage from, or to injure the interests of, the company or its shareholders or its creditors or any other person, whether or not there is any wrongful gain or wrongful loss.
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Compromises, arrangements and amalgamations The 2013 Act features some new provisions in the area of mergers and acquisitions, apart from making certain changes from the existing provisions. While the changes are aimed at simplifying and rationalising the procedures involved, the new provisions are also aimed at ensuring higher ability for the company and majority shareholders and increasing flexibility for corporate. The section dealing with compromises and arrangements, deals comprehensively with all forms of compromises as well as arrangements, and extends to the reduction of share capital, Page | 25
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buy-back, takeovers and corporate debt restructuring as well. Another positive inclusion within this section is that objection to any compromise or arrangement can now be made only by persons holding not less than 10% of share holding or having an outstanding debt amounting to not less than 5% of the total outstanding debt as per the latest audited financial statements The current procedural requirements in case of a merger and acquisition in any form are quite cumbersome and complex. There are no exemptions even in the case of mergers between a company and its wholly owned subsidiaries. The 2013 Act now introduces simplification of procedures in two areas, firstly, for holding wholly owned subsidiaries and secondly, for arrangements between small companies (section 233 of the 2013 Act). Small companies is a new category of companies, introduced within the 2013 Act, with defined capital and turnover thresholds, which has been given certain benefits, including simplified procedures. The 1956 Act, allows the merger of a foreign company with an Indian company, but does not allow the reverse situation of merger of an Indian company with a foreign company. The 2013 Act now allows this flexibility, with a rider that any such mergers can be effected only with respect to companies incorporated within specific countries, the names of which will be notified by the central government. With prior approval of the central government, companies are now allowed to pay the consideration for such mergers either in cash or in depository receipts or partly in cash and partly in depository receipts as agreed upon in the scheme of arrangement. (section 234 of the 2013 Act). These new provisions can be greatly beneficial to Indian companies which have a global presence by providing them structuring options which do not exist currently. The 2013 Act has introduced new provisions for enabling the acquirer of a company (holding 90% or more shares) by way of amalgamation, share exchange, etc to acquire shares from the Page | 26
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minority holders subject to compliance with certain conditions. This has also introduced the requirement for ‘ed valuers’, since the price to be offered by majority shareholder needs to be determined on the basis of valuation by a ed valuer (section 236 of the 2013 Act).
Revival and rehabilitation of sick companies Chapter XIX of the 2013 Act lays down the provisions for the revival and rehabilitation of sick companies. The chapter describes the circumstances which determine the declaration of a company as a sick company, and also includes the rehabilitation process of the same. Although it aims to provide comprehensive provisions for the revival and rehabilitation of sick companies, the fact that several provisions such as particulars, documents as well as content of the draft scheme in respect of application for revival and rehabilitation, etc. have been left to substantive enactment, leaves scope for interpretation.
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The coverage of Sick Industrial Companies Act, 1985 (SICA) is limited to only industrial companies, while the 2013 Act covers the revival and rehabilitation of all companies, irrespective of their sector. The determination of whether a company is sick, would no longer be based on a situation where accumulated losses exceed the net worth. Rather it would be determined on the basis whether the company is able to pay its debts. In other words, the determining factor of a sick company has now been shifted to the secured creditors or banks and financial institutions with regard to the assessment of a company as a sick company. The 2013 Act does not recognise the role of all stakeholders in the revival and rehabilitation of a sick company, and provisions predominantly revolve around secured creditors. The fact that the 2013 Act recognises the presence of unsecured creditors, is felt only at the time of the approval of the scheme of revival and rehabilitation. In accordance with the requirement of section 253 of the 2013 Act, a company is assessed to be sick on a demand by the secured creditors of a company representing 50% or more of its outstanding amount of debt under the following circumstances: The company has failed to pay the debt within a period of 30 days of the service of the notice of demand The company has failed to secure or compound the debt to the reasonable satisfaction of the creditors To speed up the revival and rehabilitation process, the 2013 Act provides a one year time period for the finalisation of the rehabilitation plan.
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SHORTCOMINGS IN THE NEW COMPANIES BILL After more than 10 years of discussions, drafting and delays, and five different ministers heading it, the government has been able to replace the 57-year-old law with new definitions and a host of other things. However, there are certain shortcomings in the New Bill which can be read as follows: 1. Independent directors: There are pitfalls in the provision of Independent Directors for three reasons. Firstly, how independent can Independent Directors be when they are appointed and paid for by the promoters? Will promoters appoint truly independent people on boards? Secondly, are there enough persons available to be appointed as Independent Directors? Once the prospective person is told about the responsibilities he will have to bear, the actual number of competent and willing Independent Directors diminishes. Most Independent Page | 29
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Directors diminish; in fact, end up adorning corporate boards without the time or commitment to work in the interests of shareholders. Third, if eligible Independent Directors end up taking up 20 directorships each, how can they really serve each of those companies’ shareholders diligently? To sum it up, although the concept of Independent Directors is good, corporate governance will need to have a heavy dose of regulation.
2. Corporate social responsibility: The New Companies Bill makes no effort whatsoever to define CSR. The only obligation is to set aside the funds, form a committee, formulate a CSR policy, and spend the cash. If don’t spend the money, they will have to explain the reason for not doing it in the annual report.
3. Excessive bureaucracy: In order to make directors able, the new Companies Bill mandates that every director shall himself or herself with the government and obtain a Director Identification Number (DIN). Like the UID, which is supposed to give every Indian resident a unique identity and prevent fraud, the DIN will enable the government to monitor the number of directorships any person holds and also his/her track record. Considering India’s track record, where bureaucratic supervision of corporate affairs more often than not leads to corruption and bribery, how many directors will want to risk being on the government’s watch list? Will DIN discourage more competent people from taking up directorships or encourage them?
4. Class action suits: The best new provision in the Companies Bill is the enabling of tort action and class action suits. The most important point is whether shareholders of government-owned companies can sue the government for squashing minority interests. It is worth recalling that Coal India has been sued by a minority shareholder (The Children’s Page | 30
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Investment Fund) for following the government’s diktat to lower coal prices in 2012. There is plentiful scope for class action suits against ONGC, Oil India and GAIL, which are subsidizing losses in the oil marketing companies. Class action suits have to be filed before the National Company Law Tribunal first, but banking companies are excluded from such action.
CONCLUSION The new Companies Act 2013 is a welcome step. It is more stringent and requires strict compliance by corporate sector. The non compliance or irregularity in compliances may attract heavy penalties. The Companies Act, 2013 marks a paradigm shift in India’s corporate law regime, and has far reaching implications for both domestic Indian companies and overseas investors with a presence in India. Some provisions, however, continue to remain inoperative and are likely to be made effective by the Indian government in due course. This piece makes it easier to understand the changes in the 2013 Act that affect multinational corporations having Indian companies or those looking to make investments in India.
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REFERENCES Helps from M/s. Ankit Chokshi & Co., A Chartered ant Firm Website of Ministry of Corporate Affairs Journal of ICSI as well as ICAI Report of PWC Firm on Company Act, 2013 Report of KPMG on Company Act, 2013.
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