India: Analysis Of Recommendations Of The Companies Law Committee

Last Updated: 4 May 2016
Article by Legasis Legasis

BACKGROUND:

The majority of the provisions of the Companies Act 2013 ('Act') came into effect in two phases - in October 2013 and in April 2014. However, the Act was seen by many as restrictive and cumbersome- particularly for closely held private companies. In June 2015, the Government constituted the Companies Law Committee ('CLC') to make recommendations on the issues arising from the implementation of the Act. The CLC released its report on February 1, 2015 and recommended as many 100 changes to the Act.

SIGNIFICANT RECOMMENDATIONS OF THE CLC

While the CLC has suggested several changes, let us have a look at some of the more significant recommendations of the CLC:

  1. As per the Act, Companies were restricted from making investments through more than two layers of investment subsidiaries. The CLC has recommended removal of restrictions on layering of subsidiaries. The CLC has explained that the existing restrictions were having a substantial bearing on the functioning, structuring and the ability of companies to raise funds .This is a positive development as this will allow Companies to undertake corporate restructuring which shall benefit their business.
  2. The Act had done away with the bifurcation of objects into 'main' and 'other' objects. It was observed that Companies faced hurdles for the approval of name of a company, and the allotment of Corporate Identity Number as it had multiple objects. The CLC has therefore, recommended that section 4(1)(c) should be amended appropriately, to allow companies the additional option to have a generic object clause.
  3. The Act specifies that an independent director must not have any pecuniary relationship with the company, its holding, subsidiary or associate company or their promoters or directors, during the two immediately preceding financial years or during the current financial year. There were no thresholds specified and even minor pecuniary relationships were covered due to this provision even though such transactions may not impact the independence of directors. The CLC has proposed to introduce a threshold for pecuniary relationships in relation to qualification for an independent director. Further Clauses 149(6)(e) (i) of the Act restricted the appointment of an individual as an Independent Director in case his relative is or was a KMP or an employee in the company, its holding, subsidiary or associate company during any of the preceding three financial years. In this regard, the CLC has recommended that the scope of the restriction should be modified and the restriction should be only with respect to relatives holding Board or KMP/one level below board positions prior to the appointment of such Independent Directors. However, the CLC has clarified that as it would be possible to influence an Independent Director in case his relative is also working in the situations referred to in the section irrespective of the position he holds, the scope of restriction after appointment of such Independent Directors should, therefore, be retained as originally prescribed.
  4. Start-ups are the current flavour of the month with the Government coming with a policy to deal with start-ups. The CLC has also suggested several measures for encouraging start-ups. The CLC has recommended that start-ups should be permitted to issue sweat equity shares beyond the limit twenty five percent and up to fifty percent of the paid up equity share capital. Further the CLC has recommended reducing compliance burden on account of private placement procedure and permitting start-ups to raise deposits for its initial five years without any upper limits. Significantly though there does not seem to be any specific definition or measures as to what would constitute to be a 'start-up.'
  5. The Act through Sections 194 and 195 has restricted forward dealing by directors and KMPs and insider trading by any person including directors and KMPs respectively. It appears that the above provisions are seemingly applicable in respect of both private and public companies. The CLC noted that since the securities in private companies would not be marketable, they would not qualify as securities within the meaning of Section 195, and thus would exclude private companies from the ambit of the said provision. The CLC observed that it would be unjustified to apply the insider trading regulations to private companies. The CLC further noted that insider trading prohibitions can be problematic in the context of the rights of first refusal that are frequently contained in the shareholders' agreements of private companies. The CLC has also noted that SEBI regulations are comprehensive in the matter (and also apply to companies intending to get listed), and in view of the practical difficulties expressed by stakeholders, sections 194 and 195can be omitted from the Act. While logically this seems to be a sound recommendation, it does not take into account the fact that that there are valid reasons for including the insider trading prohibitions in company law in addition to securities law, as directors have fiduciary responsibilities and there may be directors even in private companies and unlisted who may abuse their position and use confidential information, which have come to them through their position, for personal profit and not act in the best interests of the company. While the CLC noted this, they did not take this aspect into consideration while making their recommendations. It must also be noted that in recent times, regulators like SEC has laid more emphasis on monitoring insider trading in private companies.

Conclusion:

The Companies Act 2013 is one of the key and important legislations in the country. Through notifications, circulars, amendment orders and clarifications, the Ministry of Corporate Affairs, has brought about approximately 140 changes to the original legislation since its inception. While the recommendations are very positive, it must be noted that if brought into effect, these will result in another 100 amendments and significantly alter the landscape of governance of companies in the country. The number of amendments has caused hardships to companies and their advisors as the regulatory and compliance structure remains unclear. Many companies have taken steps to ensure compliance with the existing provisions, only to be told subsequently that the provisions are not applicable to them. One hopes that this is the final major exercise with respect to the amendments to the Act and the act gets a sense of finality.

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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