India: Time To Fine-Tune Companies Act

Last Updated: 26 October 2016
Article by Lalit Kumar

We are at the closing of the first year of implementation of the new Companies Act. Such has been the level of ambiguity that companies, this past year, were clueless about even carrying out routine corporate actions—wondering whether the old law or the new law applied as both statutes ran simultaneously and, at times, even overlapped. The result was a huge backlash from Indian and foreign corporates alike, with some even demanding the Act's repeal or a prudent re-write to make it simpler and clearer. A repeal isn't likely. So, let us examine the areas where clarifications and simplification are needed.

Let's begin with private companies. They have been waiting for exemptions from certain provisions right from the time the ministry of corporate affairs (MCA) notified the draft exemptions in June 2014. To be effective, the draft exemptions will have to be cleared by Parliament; so, exemptions must be laid in the ongoing Parliament session. Private companies had more than 40 exemptions under the old law and now, less than half survive. The larger issue relates not to giving piecemeal exemptions, but to the same regulation being extended to private companies running small businesses as is extended to large corporations with public funds. Ideally, the private companies with borrowing or turnover within a certain prescribed amount should be spared from regulatory interference. Further, the Act treats private companies with listed securities as listed companies; this needs correction—it is too harsh for such companies to comply with the requirements applicable to a listed company.

Another issue is the ambiguous meaning of 'deposits'. The Act requires companies to repay unpaid deposits by March 31, 2015; but, sans an explanation to the contrary, companies are unclear about whether anything which was not a deposit under the old Act also needs to be paid by March 31 2015? This needs urgent clarification.

It is unclear if the foreign parent of an Indian company qualifies as related-party. The definition of related-party in the Act uses the word 'company' which, as a settled principle, means an Indian company and not a foreign company. Hence, the confusion. Another faulty definition is of 'holding company'. Here, too, the phrase 'a company' is used, making it unclear if it excludes a foreign holding company? The definition of 'foreign company', read with the definition of 'electronic mode', creates another concern. 'Electronic mode' means carrying out business electronically, web marketing, advisory and transactional services by e-mail, mobile devices, social media, voice or data transmission. It is quite common for foreign companies to do electronic transactions in India. If not clarified, this could mean they have a place of business in India and the related consequences will follow. The Act does not allow preferential allotment of partly paid-up shares. RBI had recently liberalised this and permitted foreign investors to take up partly paid-up shares. The irony is when the company law allowed this, RBI didn't and, now when RBI allows it, the Act does not permit it. The MCA should modify this to align it with RBI regulation. Another instance of discord is the time permitted for share allotments. RBI permits 180 days of receipt of money but the Act only allows 60 days. This, too, needs correction.

Not just RBI regulations, the Act also conflicts with Sebi regulations. Alignment is needed to simplify business for listed companies. For instance, Sebi should modify the meaning of 'postal ballot' in Clause 35B of listing agreement to sync it with Section 110 of the Act. Further, the Act should reconsider the applicability of forward-dealing contracts and insider-trading of securities in unlisted companies. It is rather strange that such provisions of the Act apply to unlisted companies.

Few clarifications are needed with respect to issue of securities. The requirement of having an issue size of at least R20,000 of 'face value' of shares per person appears illogical as it ignores the present day reality of issues of shares at premium. Concept of 'issue value' should be used instead of 'face value'. Another ambiguity is whether the maximum term for unsecured debentures is the same as that for secured debentures, 10 years. The letter of law suggests that unsecured debentures can have a longer term but surely a clarification is needed to resolve this.

A debatable and unresolved issue is the meaning of "ordinary course of business" in the context of loans to directors and persons connected with directors. There are two divergent views and both have convincing arguments. One suggests it means the 'usual course of business' while the other means the 'principal business of the company'. Getting clarity here is a must.

Lastly, complete exemption from Section 186 should be given for transactions between holding company and wholly-owned subsidiaries, and also in the cases weher the loans are granted to employees in the course of their employment.

Another issue is the stringency of the penalties. Interestingly, the word "fine" appears 189 times in the Act, "penalty" 41 times, "prosecution" 24 times, "imprisonment" 76 times, making corporates and office-bearers subject to rigorous provisions of law with no respite. Why does the law need to imprison directors or office-bearers for sundry defaults like not filing returns/ information/ disclosures, etc, which have no bearing on any other stakeholders/the government? This isn't very different from having the right to arrest and imprison ordinary citizens for breaking a traffic signal, or parking violations, or 100 other small offences or breach of rules that citizens commit fairly regularly albeit with no significant fallouts. Is this our idea of a simple corporate law? FERA was repealed to make place for the easier FEMA, with only monetary fines. The Act should have similar provisions, at least for trivial offences.

Originally published by The Financial Express, March 4, 2015.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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