The Government has exempted private companies from the applicability of certain provisions of the Companies Act, 2013. Private companies now have more flexibility than public companies in managing their corporate affairs, on several counts returning to a level of flexibility similar to that under the Companies Act, 1956.
In a welcome move, the Ministry of Corporate Affairs, Government of India has by a notification (Notification) exempted private companies from the applicability of certain provisions of the Companies Act, 2013 (2013 Act). The Notification will be effective once it is published in the Official Gazette, which is expected soon. Once effective, private companies will on several counts enjoy similar flexibilities and exemptions as they did under the erstwhile Companies Act, 1956 (1956 Act). This newsletter examines some of these and other key exemptions/relaxations under the Notification.
ISSUE OF SHARES WITH DIFFERENTIAL RIGHTS
Unlike the 1956 Act, the 2013 Act restricted the ability of private companies in issuing shares with differential rights by prescribing conditions related to quantum (should not exceed 26% of post-issue paid-up capital), past performance (the company should have had a consistent track record of distributable profits in the 3 previous years) and past compliance (non-contravention of certain statutory provisions), among others. While such conditions will continue to apply to public companies, after the Notification private companies need not comply with such conditions if permitted to do so by their memorandum or articles.
This exemption will help in structuring investments in private companies through compulsorily convertible preference shares (CCPS) and compulsorily convertible debentures (CCDs). Private companies will be able provide additional rights (including voting rights) to holders of CCDs and CCPS by issuing some additional shares with differential rights to the investors.
RIGHTS ISSUE TIMELINES
The Notification simplifies the rights issue procedure for private companies.
Under the provisions of the 2013 Act, all companies are required to provide an acceptance period of at least 15 days and not more than 30 days in relation to a rights issue offer. Also, the offer notice must be dispatched through registered post or electronic modes to all existing shareholders at least 3 days before the issue opens. These mandatory requirements prevent a rights issue from being opened and closed on the same day, even if all shareholders consent.
For private companies the Notification now provides that 90% of shareholders may consent to a shorter time frame, in writing or through any electronic mode.
The 2013 Act provides that ESOP schemes should be approved by a special resolution (75% of the shareholders). However, pursuant to the Notification, private companies will now require approval of only a simple majority of shareholders (50%).
DEPOSITS FROM MEMBERS
The 2013 Act prescribes conditions for the acceptance of deposits by companies from its members. The Notification now exempts private companies from certain key requirements in relation to accepting such deposits if (i) the amount of deposits does not exceed the aggregate of the paid-up share capital and free reserves of the company and (ii) the company files the details of monies accepted as deposits with the Registrar of Companies.
On meeting these conditions, private companies will now be exempt from key compliance requirements such as (i) issuing circulars to members with details of financial position, credit rating, and details of previous deposits, and filing these circulars with the Registrar of Companies; (ii) maintaining a deposit in an account for repayment; (iii) obtaining deposit insurance (if applicable); and (iv) no default in repayment or payment of interest with respect to previous deposits.
RESTRICTIONS ON BOARD POWERS
The 2013 Act prescribes that a special resolution of the shareholders (75%) is required to take decisions to (i) sell, lease or dispose of the whole or substantially whole of an undertaking of a company; (ii) invest (other than in trust securities) the compensation received as a result of any merger or amalgamation; (iii) borrow money in excess of the aggregate of the paid-up share capital and free reserves (other than temporary loans); and (iv) remit or give time for the repayment of any debt from a director. Pursuant to the Notification, no shareholders' approval will be required for such decisions in private companies.
The 2013 Act prohibits companies from providing loans to directors or persons in whom the directors are interested, or to provide guarantees or security on behalf of such persons, other than in certain limited situations. The Notification now exempts private companies from such restrictions if (a) no other body corporate has invested in the company's share capital; (b) the borrowings of such company from banks, financial institutions or any body corporate is less than twice of its paid-up share capital or Rs.500,000,000, whichever is lower; and (c) such a company has not defaulted in repayment of borrowings subsisting at the time of making such transactions.
The above conditions, however, make the exemption very limited in scope. The threshold for external borrowings will limit the applicability to small companies. Additionally, there is lack of clarity on the scope of the first condition with respect to other body corporates not having invested in the company's share capital.
RELATED PARTY TRANSACTIONS
Transactions with related parties above certain prescribed limits require a special resolution of the shareholders (75%), and if a member of the company is the related party in question, the member may not participate in the voting. Pursuant to the Notification, the latter condition will not apply to private companies and a member who is a related party shall be entitled to vote.
Separately, the Notification has also narrowed down the definition of 'related parties' for private companies in the context of the approval process specified in the 2013 Act for transactions with related parties. Holding companies, subsidiaries, associate companies and subsidiaries of a common parent are now not included within the definition of 'related parties'.
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.