Tag Archives: MCA

Significant Beneficial Ownership: Who is the real owner of the shares?

The recent changes to Section 90 of Companies Act, 2013, is to determine the identity of the person behind the curtain who is having a significant ownership of the company and is essentially controlling the management and daily affairs of the company. The Ministry of Corporate Affairs notified the Companies (Significant Beneficial Owners) Rules, 2018 (“Rules”) on 13 June 2018. These Rules were made in exercise of powers provided under Section 90 of the Companies Act, 2013 (Act) which was notified on 6 June 2018.

At present, there are two separate definitions for the determination of a significant beneficial owner. The first, as per Section 90 of the Act, an individual who holds at least 25 (twenty-five) percent of beneficial interest in the company would be categorised as a significant beneficial owner. Such individual can hold beneficial interest either alone or together or through one or more persons, with such person or persons including person resident outside India, or a trust, with such trust including a trust outside India.

The second definition of significant beneficial ownership has been provided under the Rule 2(e) of the Rules, which ascribes the categorisation of a significant beneficial owner to an individual. However, a major deviation under the Rules from Section 90(1) is that the threshold provided for an individual being classified as a significant beneficial owner is 10 (ten) percent in contrast to the threshold of 25 (twenty-five) percent prescribed under the Act. Moreover, the definition as per the Rules provide for an additional condition that the name of such individual who is holding beneficial interest should not be entered in the register of members.

Both definitions have deemed a necessary condition that an individual must be holding beneficial interest in the company to be deemed as a significant beneficial owner. The term beneficial interest has been defined under Section 89(10) as the right of entitlement of a person alone or together with any other person, indirectly or directly, through any contract or arrangement, to exercise any or all rights attached to the shares; or to receive or participate in any dividend or any such distribution in respect to shares held.

Despite the contradiction in the threshold for determination of significant beneficial ownership in a company, the threshold specified in the Rules would be considered as the applicable threshold. This is because Section 90 of the Act provides that the beneficial interest should not be less than 25 (twenty-five) percent or any other percentage as may be prescribed. Therefore, the threshold of 10 (ten) percent as prescribed under the Rules would be the final threshold percentage to determine significant beneficial ownership.

The application of the Rules extends to companies which has shareholders apart from individuals and natural persons with such shareholders holding beneficial interest in the company as per prescribed limits. The application of these rules however, does not extend to holding of shares in instances of pooled investment vehicles or investment funds such as AIFs (Alternative Investment Funds), Real Estate Investment Trusts, Mutual Funds, Infrastructure Investment Trusts.

The Rules elucidate that a beneficial interest would include right of entitlement held either alone or jointly with another person, be it directly or indirectly under any contract or arrangement. The right of entitlement would include the right to exercise any or all rights attached to such shares and receive or participate in any dividend or other distribution. Beneficial owners would be such persons holding a beneficial interest.

The rules deem significant beneficial owners to be such individuals, who while acting alone or together or through one or more persons or through a trust, hold beneficial interest of not less than 10% of the shares in the company with the names of such owners not being entered in the register of members of the company as the holder of such shares.

In cases where the beneficial interest is possessed by persons other than individuals or natural persons, the significant beneficial ownership would be determined as follows:

  1. Where the member is a company – the significant beneficial owner would be the natural person who holds 10 (ten) percent of the share capital of the Company or who exercises significant influence or control in the company through other means.
  2. Where the member is a partnership firm – the significant beneficial owner would be the natural person who holds 10 (ten) percent of the share capital or has entitlement of not less than 10 (ten) percent of profits of the partnership.
  3. Where no natural person can be identified – where no natural person is identifiable for a company or a partnership firm, the senior management official of the entity would be deemed as the significant beneficial owner.
  4. Where the member is a trust through a trustee – for the purpose of identifying the significant beneficial owner, the process would include identification of the author of the trust, trustee, the beneficiaries with not less than ten per cent. interest in the trust and any other natural person exercising ultimate effective control over the trust through a chain of control or ownership.

The Rules explicitly exempt the applicability of certain funds and investment vehicles that are registered under the SEBI Act. The Rules however, do not deal with the funds that are foreign based and not registered under the SEBI Act. Therefore, if an Indian company has a foreign fund as an investor and has an ownership qualifying under the definition of a significant beneficial owner, it is not clear whether such foreign fund would be required to make a declaration.

The filing compliance under the rules are as follows:

  1. A declaration is required to be filed to the company in which significant beneficial ownership is held within 90 days of commencement of the rules and in case of any change in the significant beneficial ownership, declaration is to be made to the company within 30 days of such change under Form BEN-1.
  2. The company is required to file Form BEN-2 with respect to such declaration within 30 days of receipt of declaration under Form BEN-1.
  3. A company is required to maintain a register of significant beneficial owners under Form BEN-3.
  4. The company can serve a notice seeking information under Form BEN-4. The person on whom the notice has been served is required to revert to the company within 30 days of receipt of notice. Wherein the company is not satisfied with information provided or person fails to furnish required information, is entitled to apply to the Tribunal within 15 days of expiry of the period mentioned in the notice.

As per the Rules, the companies were required to make a filing of Form BEN-2 on receipt of Form BEN-1 within 30 days. However, the Ministry of Corporate Affairs (MCA) be way of a general circular no. 07/2018 dated 6 September 2018 have clarified that the 30-day time limit for filing Form BEN-2 would commence from the date of the e-form being available on the MCA-21 portal rather than with 30 days of receipt of declaration by the company under Form BEN-1. The MCA further clarified that no additional fee would be applicable subject to the case that the company makes the filing of Form BEN-2 within 30 days of the form being available on the MCA-21 portal.

Source: http://www.mca.gov.in/Ministry/pdf/CompaniesSignificantBeneficial1306_14062018.pdf

http://www.mca.gov.in/Ministry/pdf/GCCircularBen_10092018.pdf

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MINISTRY OF CORPORATE AFFAIRS: NOTIFICATION OF COMPANIES (PROSPECTUS AND ALLOTMENT OF SECURITIES) AMENDMENT RULES 2018

The MCA vide its notification dated 7 May 2018 has amended Companies (Prospectus and Allotment of Securities) Rules 2014 and done away the requirement of detailed list of contents of the prospectus following suggestions from the stakeholders that offer documents are becoming too long, too detailed, and repetitive as also too difficult to understand.

Rule 3 of the Companies (Prospectus and Allotment of Securities) Rules 2014  relating to information to be stated in the prospectus, Rule 4of the Companies (Prospectus and Allotment of Securities) Rules 2014 relating to reports to be set out in the prospectus, Rule 5 of the Companies (Prospectus and Allotment of Securities) Rules 2014  relating to other matters and reports to be stated in the prospectus and Rule 6 of  the Companies (Prospectus and Allotment of Securities) Rules 2014 relating to period for which information to be provided in certain cases stands omitted.

Source:

http://www.mca.gov.in/Ministry/pdf/CompaniesProspectusRules_07052018.pdf

MINISTRY OF CORPORATE AFFAIRS: NOTIFICATION OF COMPANIES (APPOINTMENT AND QUALIFICATION OF DIRECTORS) SECOND AMENDMENT RULES 2018

The MCA vide its notification dated 7 May 2018 has amended Companies (Appointment and Qualification of Directors) Rules 2014 by Companies (Appointment and Qualification of Directors) Second Amendment Rules 2018 expanding the scope of qualifications of independent directors.

Rule 5 (2) requires that none of the relatives of an independent director is indebted to the company, its holdings, subsidiary or associate company or their promoters, or directors or has given a guarantee or provided any security in connection with the indebtedness of any third person to the company, its holdings, subsidiary or associate company or their promoters, or directors of such holding company, for an amount of Rupees Fifty Lakhs at any time during the 2 immediately preceding financial years or during the current financial year.

Source:

http://www.mca.gov.in/Ministry/pdf/AppointmentDirectorsRules_07052018.pdf

Nuances associated with Issuance of Compulsorily Convertible Debentures

Compulsorily Convertible Debentures (CCDs) are considered to be hybrid instruments / and equity linked instrument, i.e. they are treated as debt till the time they are converted into equity. When they are issued it is a debt, after a period of time / milestone, it shall be compulsorily converted into shares. On the other hand, the Optionally Convertible Debentures are debt securities and interest is paid to the investors till maturity and repayment.

Under FDI guidelines, CCDs are treated as equity for the purposes of reporting to Reserve Bank of India.

 

The Companies Act, 2013 and the rules issued thereunder (the Act) provide the legal framework for the issue of Debentures[1] by Indian companies. The various kinds of Debentures are (i) Compulsorily Convertible Debentures; (ii) Optionally Convertible Debentures; and (iii) Redeemable Debentures. Section 71 of the Act states that a company could issue debentures with an option to convert into shares either wholly or partly at the time of redemption.

CCDs are considered to be convenient as it allows the investor to tap into the Company’s potential without diluting the founders shareholding percentage until the CCDs are converted into shares.

Here’s an article that we wrote way back in December 2015, which provides details on CCDs.

https://novojuris.com/2015/12/21/raising-of-funds-through-compulsorily-convertible-debentures/

In this post, we have analysed the nuances associated with the issuance of Compulsorily Convertible Debentures (CCDs).

Issuance of Securities:

Under the Act, the securities[2] could be issued in any of the following manner: (i) Private Placement Basis (section 42); (ii) Rights Issues (section 62(1)(a); (iii) Bonus Issue (section 63) and (iv) Sweat Equity (section 54).

Rights Issue: 

Section 62(1)(a) of the Act regulates the issuance of shares by way of a rights issue to the existing shareholders of the Company. Section 62 states that whenever a  company having share capital proposes to increase its subscribed capital by issue of further shares, then such shares shall be offered to persons who are holders of equity shares in the Company in proportion to their paid-up share capital.

Most of the practicing professionals opine that CCDs cannot be issued by way of rights issue since Section 62 (1) of the Act explicitly mentions issuance of “shares”. Whereas Section 42 states that a company may make a private placement of “securities”.  However, a few professionals opine that CCDs are a hybrid instrument which shall be compulsorily convertible into equity shares and therefore is considered as an equity-like instrument and they argue that the CCDs can be issued under rights issue.

Private Placement:

The rigour of following the Private Placement under section 42 is quite high, many nuances and high penalties for non-compliances.

Section 42 of the Act provides that the offer of securities or invitation to subscribe securities on a private placement basis shall be made to such number of persons not exceeding fifty or such higher number as may be prescribed, (excluding qualified institutional buyers and employees of the company being offered securities under a scheme of employees stock option), in a financial year and on such conditions (including the form and manner of private placement) as may be prescribed.

Every private placement of securities must be made with the prior approval of the shareholders of the Company by a special resolution approving the private placement offer letter. The utmost important condition under section 42 is the total face value of each kind of securities issued to each person shall be at least Rs. 20,000. The private placement offer letter is required to be accompanied by an application form addressed specifically to the person to whom the offer is being made. Additionally, the Act lays down the following requirements: (i) the offer has to be made only to those persons whose names are recorded by the company prior to the issue of the offer letter to subscribe to the securities; (ii) a complete record of offers has to be kept by the issuer in a prescribed manner, and (iii) complete information about the offer has to be filed with Registrar of Companies (the RoC) within 30 days of circulation of the offer letter.

Allotment in respect of private placement of securities (including CCDs) is required to be completed within 60 days from the date of receipt of application money. Additionally, the consideration so received towards issuance of securities (including CCDs) could be utilised only upon the securities been allotted and the return of allotment in this respect is filed with the RoC. In the event of non-allotment, the consideration so received is to be refunded to the subscribers within 15 days from the date of completion of 60 days. If the company fails to refund the consideration within the 15 days, it is liable to pay interest at the rate of 12% from the end of the 60th day.

Considering numerous disclosures, conditions and huge penalties associated with private placement basis, the practicing professionals always tends towards the rights issue mechanism which involves minimal disclosures etc.

Additional Compliance in case of Issuance of CCDs to non-residents

(a) CCDs as debt or equity instrument: It is also pertinent to note that the under the Foreign Exchange Management Act, 1999 and rules, regulations made thereunder (FEMA), any investment by any non-resident towards CCDs are considered as equity instrument under FDI guidelines. However, the investment by non-resident towards Optionally Convertible and Redeemable Debentures are considered as debt instruments and being construed as External Commercial Borrowings.

(b) Terms of Conversion of CCDs: The terms of conversion are to be decided upfront at the time of issuance of these CCDs. It is important to note that the price/conversion formula of convertible capital instruments should be determined upfront at the time of issue of the instruments and the price at the time of conversion should not, in any case, be lower than the fair value worked out, at the time of issuance of such instruments, in accordance with the provisions of FEMA. It may also be noted that there are no explicit restrictions on variation/change in terms of conversion either under the Act or under FEMA. However, the Reserve Bank of India (the RBI) has raised objections to such change in terms of conversions.

(d) Fair Market Valuation: The CCDs shall be issued at or above the fair market value as on the date of issuance of such CCDs. The valuation of CCDs shall be done as per any internationally accepted pricing methodology for valuation on an arm’s length basis duly certified by a Chartered Accountant or a Securities and Exchange Board of India registered Merchant Banker or a practicing Cost Accountant.

Closing remarks:

Considering nuances associated with the issuance of CCDs on private placement basis and the

statutory provisions with regard to issuance of CCDs on rights basis being silent, the method of issuance has become slightly ambiguous and lead to varied interpretations. A clarity to this effect from the Ministry of Corporate Affairs would help and aid all stakeholders to issue CCDs without resorting to various interpretations.

Author: Shruthi Shenoy, is an Associate with NovoJuris Legal

[1] Debenture is defined under 2(30) of the Companies Act 2013 as Debenture includes debenture stock, bonds or any other instrument of a company evidencing a debt, whether constituting a charge on the assets of the company or not.

Provided that: (a) the instruments referred to in Chapter III-D of the Reserve Bank of India Act, 1934; and (b) such other instrument, as may be prescribed by the Central Government in consultation with the Reserve Bank of India, issued by a company, shall not be treated as debenture;

[2] The term “securities” includes debentures.

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Regulatory Update: Ministry of Corporate Affairs – Companies (Authorized to Register) Amendment Rules, 2018.

The MCA vide its notification dated 16 February 2018 has amended the Companies (Authorised to Register) Rules, 2014 and notified the Companies (Authorised to Register) Amendment Rules, 2018, substituting form no. URC-1 (Application by a Company for registration under Section 366 i.e, Conversion from firm into Company and LLP into Company)

Source:

http://www.mca.gov.in/Ministry/pdf/CompaniesAuthorisedRegisterAdmendmentRules2018_19022018.pdf

Regulatory Update: MCA – Companies (Management And Administration) Amendment Rules, 2018

The MCA vide its notification dated 16 February 2018 has amended the Companies (Management and Administration) Rules, 2014 and notified the Companies (Management and Administration) Amendment Rules, 2018, to substitute/ amend the prescribed forms MGT-6 (Return to the Registrar in respect of declaration under section 89 received by the Company) and MGT-15 (Form for filing report on Annual General Meeting).

Source:

http://www.mca.gov.in/Ministry/pdf/CompaniesManagementAdministrationAdmendmentRules2018_19022018.pdf

Regulatory Updates: MCA – Companies (Audit and Auditors) Amendment Rules, 2018

The MCA vide its notification dated 16 February 2018 has notified the Companies (Audit and Auditors) Amendment Rules, 2018, to substitute/ amend the prescribed Forms ADT-1 (Notice to the Registrar by Company for appointment of Auditor) and ADT-2 (Application for removal of auditor(s) from his/ their office before expiry of term) in Annexure to the Companies (Audit and Auditors) Rules, 2014.

Source:

http://www.mca.gov.in/Ministry/pdf/CompaniesAuditAuditorsAdmendmentRules2018_19022018.pdf