Tag Archives: Companies Act 2013

New BEN-2 Form for declaration of Beneficial Owners

Ministry of Corporate Affairs (“MCA”) vide Notification dated July 1, 2019, amended the Companies (Significant Beneficial Owners) Rules, 2018 by substitution of the existing Form BEN-2 for declaration of Beneficial Owners through the Companies (Significant Beneficial Owners) Second Amendment Rules, 2019.

The Companies (Significant Beneficial Owners) Rules, 2018 was framed under Section 90 of the Companies Act, 2013 to identify the owners of a company incorporated by way of multilayered intermediate entities.  Such owners hold shares of a company but will not have any beneficial interest in such shares. These owners having an interest in indirect holding of shares, but their names are not entered in the register of members, are termed as ‘Beneficial Owner’. While such beneficial owner is required to file a declaration in Form BEN-1, the company is required to file a return in Form BEN-2.  These rules were earlier amended on February 8, 2019, whereby the definition of a significant beneficial owner was amended, to one who had a right of at least 10% of shares/voting right or has the right to receive 10% or more of distributable dividend. Form BEN-2 is to be filed within 30 days from the date of receipt of declaration in Form BEN-1. No additional fees is payable if Form BEN-2 is filed within 30 days from the date of deployment on MCA-21.

Source: http://egazette.nic.in/WriteReadData/2019/206373.pdf

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Advisors in Start-ups and Early Stage Companies

India is witnessing a high growth in the number of start-ups in the country and is also amongst the top start-up ecosystems in the world. The government has provided a few benefits to startups as well, through the Startup India Action Plan.

However, only a few of these start-ups actually succeed. It is a treacherous path with a lot of unknowns. An advisor or an advisory board in a start-up might help the early stage companies to atleast know some of those unknowns. Financial investors certainly add value, sometimes domain expertise even. The comfort of speaking with an advisor where they bring in the expert views, advice and sheer experience onto the table is very valuable. As the saying goes, ‘Experience is the best teacher’.

Who are these Advisors and what role do they play?

An advisor is a person who brings in his unique skill sets and expert opinion on the business of the company, operational or otherwise. They are the people ‘who have been there and done that’. They can play a major role, especially if the founders and the team are new to the industry and do not have much experience. There are celebrity advisors even, who by being called as an advisor adds value to the startup.

Advisors can play different roles, for example, advisors who bring in their expertise in a particular domain or area; help with their networks and can introduce potential clients, employees or investors; or scaling up teams; expansion to new geo. It is not just having the advisors but also heeding to their advice. Therefore, advisors need to be chosen very wisely, so that their advice can be relied and executed upon.

How to choose the right Advisor?

Hiring an advisor who does not add much value or provides incorrect advice to the company may turn out to be counter-productive or disastrous. The advisors bringing in complementary skills or “deeper” skills which the founding team has a gap would be great. Identify the areas where the founders lack expertise or sufficient industry knowledge, where they face difficulties or have faced difficulties in the past or any area where they would require expert advice. Once there is clarity on where and why advisors are required, do some research and talk to people who can introduce you to some advisors. Discussing the same with the existing investors (if any) might also be a good idea as they might be able to connect the founders with the relevant people. And since the investors have invested in the company, they would ensure that the advisor will be someone who can add value to the company.

Ensure that they are people with the relevant expertise and knowledge, proven track record, good communication skills, networking skills, etc. Advisors should be individuals who would invest their time for the growth of the company and who can provide support to the founders where there is lack of expertise or knowledge.

Engaging with the advisor

An advisor may be compensated in cash, equity etc. Many a time, the advisor is interested in just giving back to the eco-system. One should evaluate if the advisor has time to provide support to the startup, whether the advisor is associated with other companies which the startup may have conflict / competition.  Maintaining a good rapport, having regular discussions and candid conversations, updating the advisor on a regular basis about the business and other relevant aspects of the business can go a long way. The most important factor is to ensure that there is trust between the parties.

Some startups look for a small investment by the advisors into the company, as a test to ensure that the advisor believes in the idea, startup, founders etc.

Compensation for Advisors

Let us now evaluate some of the ways to compensate advisors for the value-add they bring to the company.

Start-ups, more often than not, compensate advisors by giving a percentage of equity in the company since they may not have the finances to give cash compensation (unless well-funded). New shares can be issued to the advisors or shares can be transferred from the founders. Such issuance or transfer should ideally happen at the face value of the shares since it is a compensation for the services rendered by the advisors and the advisors would not want to pay the full price of the shares. As the same is being issued/transferred at face value instead of the fair market value, tax implications need to be evaluated since any issuance/transfer of shares below the fair market value will fall under the ambit of the Income Tax Act, 1961. Also, the percentage holding of the founders needs to be taken into account so that their shareholding percentage does not get diluted to a large extent considering that there will be future investments, where the shareholding will get diluted further. Another aspect to be considered is that, an issuance of shares will dilute the shareholding of all shareholders (including investors if any) whereas the transfer of shares from founders will dilute only the founders’ shareholding.

Another way of compensating the advisors is by issuing shares to them by way of consideration other than cash under section 62 (1) (c) of the Companies Act, 2013 (“Act”) read with rule 13 of Companies (Shares Capital and Debenture) Rules, 2014. The private placement process under section 42 of the Act will have to be followed for this purpose. The advisors have to raise invoice for the services rendered which will be commensurate with the fair market value of the advisory shares. Company will be responsible for TDS which will be a cash out on the Company. Further, the entire amount shall be taxed in the hands of the Investor as income from other sources, at the applicable tax slab.

Yet another option could be granting phantom stock options (“PSOs”) to the advisors. These are options which are settled by way of cash settlement. It a performance-based incentive plan through which the advisors will be entitled to receive cash payments after a specific period of time or upon reaching a specific target. A separate agreement can be entered into for capturing the details. This is directly linked to the value of the company’s share price. For example, the advisors could have promise of ‘x’ number of shares at ‘y’ price at grant. At exercise, the appreciation in the value of the share price, is handed out as cash incentive. Tax will be applicable at the time of payout. However, unlike employee stock options, which is recognized under the Act, PSOs by private limited companies does not fall under the ambit of the Act and therefore, will be in the nature of contractual right. Please see our previous post on  Phantom Stock Options to know more about this.

It has to be noted that advisors are not eligible for employee stock options (ESOPs) as ESOPs can be given only to employees and directors subject to the restrictions under the Act and relevant Rules.

Advisory shares to Non-Residents:

It becomes a little more complex when the advisor is a non-resident since the shares issued/transferred to a non-resident needs to be in compliance with the pricing guidelines as provided in Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2017 (“FDI Regulations“). As per the pricing guidelines, capital instruments which are issued or transferred to a non-resident has to be priced as per any internationally accepted pricing methodology for valuation on an arm’s length basis duly certified by a chartered accountant or a SEBI registered merchant banker, in case of an unlisted company. Considering these rules, granting of advisory shares to a non-resident can be a very tricky situation. PSOs may be a better option in this case.

Formal Agreement with Advisors

The engagement with the advisors should be fruitful for the company and help in its growth. It is advisable to enter into a formal agreement with the advisors which captures all important terms regarding the engagement which will be beneficial for both the company and the advisors. This will help in keeping track of the contribution of the advisors and also if in future, any differences arise between the company/founders and the advisors, it will always help to have a formal agreement. The exact role of the advisor and deliverables, vesting schedule, time commitments, compensation, non-compete, confidentiality, exit related provisions, etc. should be captured in such agreements. Specific milestones may also be included in these agreements. Once the milestones are satisfactorily completed, compensation as agreed can be given.

Once the advisors become shareholders in the company, depending on the shareholders’ agreement (if any), the advisor might need to enter into a deed of adherence, so that the rights of the shares are captured.

Author: Paul Albert

 

Simplified process of Incorporation & Commercial registrations

Introduction

The Ministry of Corporate Affairs (MCA) had notified the Companies (Incorporation) Third Amendment Rules, 2019[1] on 29 March 2019 which introduced the e-form INC-35 [Application for Goods and services tax Identification number, employees state Insurance corporation registration pLus Employees provident fund organisation registration (AGILE)]. The said AGILE form aims at bringing a single window where applicants can make applications under the Goods and Services Tax (GST), Employees Provident Fund Organization (EPFO) and Employees State Insurance Corporation (ESIC).

At present, the application for incorporation of a Company is made in e-form INC-32 (SPICe) along with e-Memorandum of Association (e-MOA) in Form No. INC-33 and e-Articles of association (e-AOA) in Form no. INC-34. Through e-form INC-32, the applicants can apply for PAN and TAN and now with the deployment of e-form INC-35, applications can be made for GST, EPFO and ESIC while incorporation of the Company.

This is a welcoming change brought about by the MCA wherein the incorporation process has been made hassle-free and the applicants can apply for various registrations while incorporating the Company. Previously, even after obtaining the certificate of incorporation Companies had to apply for registrations under the GST, EPFO and ESIC and subsequent approval. This proved to be a setback for companies and they couldn’t actually commence operation. However, with the introduction of the AGILE form the Ease of doing Business in India initiative has now been further enhanced.

How does this work?

For incorporation of the Company, applicants have to upload the requisite incorporation related linked e-forms i.e., INC-32, INC-33, INC-34 and INC-35. Thereafter, on approval of the same by the MCA, the Certificate of Incorporation, PAN and TAN is issued. Subsequently, the requisite information for GST, EPFO and ESIC (whichever service is availed) that has been filed in e-form INC-35 is forwarded to the concerned departments for its approval.

Thus, there are no repetitive submissions of incorporation related documents for obtaining registrations under GST, EPFO and ESIC.

Practical issues faced

Though this new amendment has made the incorporation process stress-free, applicants still face practical issues in this respect. Some of the issues are as follows:

  1. Companies have to provide a registered office address compulsorily for the AGILE form: While incorporating a company, applicants have an option to provide a correspondence address instead of a registered office address. However, they do have to obtain a registered office address within 30 days from the date of incorporation of the Company. This helps applicants a sufficient time to set up a registered office in case they do not have one at the time of incorporation. However, for the purpose of filing the AGILE form it is mandatory to have a registered office address as the form will only accept the address provided in the SPICe i.e., INC-32, or the correspondence address has to be the same as the address of the registered office.
  2. Principal place of business should be the same as the Registered Office of the proposed Company: Applicants willing to apply for GSTIN/Establishment code as issued by EPFO/Employer Code as issued by ESIC at the time of incorporating company, have to make sure that the principal place of business is the same as the Registered Office Address of the proposed Company. Thus, Companies intending to have the principal place of business different from the Registered Office address cannot avail this facility. They have to follow the existing registration procedure under the GST, EPFO and ESIC.
  3. Mandatory filing of AGILE form: Applying for GSTIN/ Establishment code as issued by EPFO/Employer Code as issued by ESIC at the time of incorporating company is optional. However, applicants have to still file the e-form as it is a linked e-form which accompanies the SPICe form for incorporation. This can prove to be an unnecessary compliance requirement for applicants who do not want to apply for GST, EPFO and ESIC registrations at the time of incorporation. 
  4. Resubmission of GST Application through the GST portal: In case of any error in the GST Application and the same has been sent for resubmission, applicants have to resubmit the application through the GST portal only. Further, if the TRN expires, a fresh application for GST shall have to be made through the GST portal too.

Conclusion

The introduction of this form surely proves to be beneficial for stakeholders however it still does not cover all the general registration requirements for a newly incorporated company such as Professional Tax, Trade License, Shop and Establishments, etc. Additionally, the MCA also has to look into the practical issue that are being faced and incorporate the changes to provide a seamless service.

Authors: Alivia Das and Ashwin Bhat

Reference:

[1] http://www.mca.gov.in/Ministry/pdf/companiesINC3rdAmendmentRules_30032019.pdf

Changes in Eligibility Criteria for Class Action Application

The Ministry of Corporate Affairs (“MCA”) on 08 May 2019 amended the National Company law Tribunal Rules, 2016, (“Rules”) which will streamline the provisions of Rule 84 of the said Rules (i.e. Right to apply under the Companies Act in case of Oppression and Mismanagement) and Section 245 (Class Action) of the Companies Act, 2013 (the Act).

While reading Section 245(1) of the Act together with the amended Rules it can be derived that following classes of members or depositors can Class Action under Section 245 of the Act before the National Company law Tribunal for seeking its order:

Category Criteria
In case of a company having a share capital The application shall be made by at least:

(a) 5% of total members or 100 members, whichever is less; or

(b) In case of an unlisted company, members holding at least 5% of issued share capital; or

(c) In case of a listed company, members holding at least 2% of issued share capital.

In the case of a company not having a share capital The application shall be made by atleast one-fifth of the total number of its members.
In case applicants are Depositors The application shall be made by at least:

 

(a) 5% of the total number of depositors or 100 depositors, whichever is less; or

(b) Depositors to whom the company owes 5% of total deposits of the company.

 

Source: http://www.mca.gov.in/Ministry/pdf/AmendmentRules1_08052019.pdf

Notification of Companies (Acceptance of Deposits) Second Amendment Rules, 2019

The Ministry of Corporate Affairs (the MCA) vide its Notification dated 30 April 2019, has amended the Companies (Acceptance of Deposits) Rules, 2014. This amendment is in relation to its earlier notification dated 22 January 2019 which mandated the non-government companies to file Form DPT 3 providing particulars of transactions that have not been considered as deposit under the Companies Act 2013 or both as on 22 January 2019. With this amendment, the MCA has amended to mandate the Companies to provide aforesaid information as on 31 March 2019. Further, it has extended the due date for filing Form DPT 3 from 22 April 2019 to 30 June 2019.

Source: http://www.mca.gov.in/Ministry/pdf/CompaniesAcceptanceDepositsSecAmendRules_01052019.pdf

Extension of due date for filing ACTIVE form

On 21 February 2019, the Ministry of Corporate Affairs (the MCA) had mandated all companies incorporated prior to 31 December 2017, to file Active Company Tagging Identities and Verification (Form INC 22A Active) on or before 25 April 2019. However, after considering the representation received various stakeholders, the MCA vide its Notification dated 25 April 2019, has extended the due date for filing the Form INC 22A Active till 15 June 2019.

Source:http://www.mca.gov.in/Ministry/pdf/CompaniesIncorporationFourthAmendmentRules_25042019.pdf

Post-Merger Corporate Governance

Corporate governance is an important aspect for the success and growth of any organisation. A well-structured corporate governance regime becomes even more important post a merger (strategic or otherwise). It might prove to be especially beneficial in the smooth transition and functioning of the business of the merged entity, especially during the early stages after the merger. At the same time, a weak corporate governance structure may be detrimental to the success of the merged entity.

In a merger, the merging entities commonly come together to work and operate as a single merged entity. This would mean the integration of different cultures, mindsets, viewpoints, work ethics, principles, etc. Therefore, post-merger corporate governance becomes important so that all discussions between the key stakeholders of the merged entity are seamlessly documented leaving zero scope for potential conflict in the future. This would also help the key stakeholders to run the business of the merged entity without having to worry about internal conflicts, mismanagement, etc. Also, depending on the end goal or the objectives of the merging entities, there has to be a clear understanding on the type of merger to be undertaken. Refer to our previous post on M & A: Different structures and a comparative to know more about different structures of M&A.

What is Corporate Governance?

Before moving on to the different aspects of corporate governance to be considered post a merger, let us try to understand the meaning of the term ‘corporate governance’. With respect to early-stage unlisted entities, corporate governance generally refers to the internal rules and policies of the organisation, the relationship between the shareholders, the roles and responsibilities of the directors and the top management and the decision-making structure, including the financial and operational decision making. In a nutshell, it includes all aspects which govern the organisation and basis which business is conducted and an organisation is run, both with respect to internal stakeholders, as well as external stakeholders.

Significance of Post-Merger Corporate Governance

Merger of entities, more often than not, would mean the integration of different cultures, mindsets, viewpoints, work ethics, principles, etc. Even though the end goal would be the same, that is, the success and growth of the merged entity, perspectives on the means to achieve the end goal may differ from person to person. However, since the merging entities would no longer be separate entities, it is important that the means to achieve the end goal is also aligned. Thus, while corporate governance is very important for every organisation, it gains even more significance post a merger.

There has to be a clear understanding on the structure of the corporate governance post-merger, which could primarily be recorded discussions and step plans to achieve the objectives of the merger. For example, if the main objective of a merger is market expansion of the business, it would be good to have a clear step plan detailing out the potential markets, key people to target the same, timelines and other operational parameters which could eventually determine achievement of results as agreed amongst the key stakeholders. If a merger involves employee movement, a clear plan for the transitioning of employees, in terms of location, identification, compensation plan, positive interactions across teams and often (in new age companies) regular counselling on challenges faced may prove to be tremendously beneficial in the long run.

Also, post the merger, it is always better to have each and every discussion documented. Such discussions (including the informal discussions) should also be conducted at the board level, which would help in ensuring that the important stakeholders are part of these discussions. The objective is not to increase bureaucracy but to ensure that the operations are seamless. This might not seem to be important especially during the initial stages after a merger. However, the importance of documenting every discussion comes into play when, at some point, the difference of opinion arises. In order to avoid tense and awkward situations at that point of time, if every decision or discussion in relation to the business and operations is documented and is taken with the knowledge of all the key stakeholders, it would to a large extent help in solving the issue at hand in a much more efficient and faster manner.

A merger would, in most circumstances, result in a change in the board composition and management. The board of the merged entity will play an important role in effective management and quick transition. The composition of the board (and the committees of the board) is usually determined prior to the closing of the transaction and is documented in the transaction documents. The composition of the board (and the committees of the board) will have to be properly thought through and well planned. Every member of the board/committee needs to understand their respective roles. It is important to ensure that there is equal representation for all the key stakeholders. The members of the board/committees have to be diverse, experienced and should have a clear understanding of the goals of the merger. Also, it is important to conduct review meetings to ensure that the goals or targets are being met and if not, analyse on the reasons and improve on the same. The board/committee meetings may be conducted on a regular basis.

It may be a good option to appoint an independent director to the board. This will help in situations where there is a difference of opinion between the various members of the board since the independent director will be a neutral party and would be able to give unbiased opinions. The independent directors bring objectivity and an independent opinion to the decisions made by the directors. They can also help in bringing more transparency to the proceedings of the board and also ensure that the interests of the shareholders are given due regard. However, an independent director can play a major role in ensuring good corporate governance only as long as he/she functions independently. His/her decisions should not be influenced by the other board members. Refer to our previous post on Independent Directors to know more about independent directors and their independence.

Conclusion

Even though there is no specific statute or law governing corporate governance as a whole in case of unlisted companies, there are various provisions under the Companies Act, 2013, SEBI guidelines, etc. which indirectly strives to have a good corporate governance system like provisions for appointment of independent directors and their roles and duties, appointment of audit committees, role of directors, etc.

To achieve the goals and objectives of the merged organisation and for a smooth transition, a well-structured corporate governance is vital.

 

Author: Paul Albert, Associate at NovoJuris Legal