MCA Proposes Relief To Private Companies by Vinod Kothari

By: Vinod Kothari, CEO -Vinod Kothari & Co

MCA today [24^th June 2014] came with a list of sections from which it proposes to grant exemptions to private companies. This is a proposed notification, and the MCA has sought feedback of stakeholders by 1^st July 2014.

Considering the strangulating provisions of the Act as originally enacted, it is a major relief. However, if one takes into account the fact that private company exemptions was an essential promise made by the MCA at the time of taking the Bill through Parliamentary Committees, the relief seems much less than desirable.

Private company exemptions: essential scheme of the law:

Unlike the 1956 Act where the exemptions to private companies were essential part of the fabric of the law, in the 2013 Act, everything was made applicable to every company, with the Central Government reserving the power to exempt companies. One of the reasons for this approach was that exemptions were based on dynamics of business, and it would better serve the interest of business if the MCA could do it by notification, rather than through Parliamentary process. There were several submissions made by the MCA before the Parliamentary Committees that, where appropriate, the MCA will come up with exemptions for private companies.

In essence, the point one must underscore is that exemptions as proposed in the 24^th June proposed is not a booty or a gift from the MCA –these exemptions were an essential part of the very making of the law, and it is only unfortunate that the Act has been through several months of enforcement before the proposed exemptions have been announced. In the meantime, there has been considerably tense time for companies, and professionals have made merry helping companies to comply with provisions that may have no policy relevance to private companies.

Subsidiaries of foreign companies:

While interpreting exemptions applicable to private companies, one must carefully underscore the fact that a strict interpretation of sec. 2 (71) and sec 2 (87) may lead one to conclude that subsidiaries of foreign companies have become deemed public companies under the law. The 1956 Act had an important exemption – sec 4 (7) which got deleted in the process of redrafting of the law. There is no clarity as yet on this issue as to whether private companies, majority-owned by foreign companies, are still private companies. This clarity becomes hugely important, as most FDI into India comes into private companies.

Corporate restrictions proposed to be relaxed:

Among the important provisions sought to be relaxed, sec 188 dealing with related party transactions (RPTs) is sought to be fully exempted. Section 188 puts restrictions on RPTs, and the way the requirement to seek approval of “majority of minority” is worded, it may be impossible for private companies to seek the requisite approval. This section is proposed to be fully taken off- which means private companies, irrespective of size, will not have to take any approval of either the board or the general meeting for RPTs. This may be a major relief, as the erstwhile section 297 of the 1956 Act, corresponding to sec. 188, did not exempt private companies.

Exemption from sec 185 dealing with loans to directors or associated entities comes with a surprising condition that there must be no body corporate shareholder in such private companies. It may be virtually impossible to find such a private company, and whoever might have devised this restriction on the proposed exemption may be completely oblivious of the reality.

Private companies having up to 50 members are proposed to be exempted from the need to seek special resolution of members, under sec 180, for taking loans exceeding their net worth.

Appointment of directors:

There are some proposed relaxations in case of appointment of directors by private companies, but in this regard, a lot more is still needed.

For example, one of the largest discrepancies left by the 2013 Act is that sec 152 (6) puts more restrictions on the manner of appointment of directors in case of private companies than there are in case of public companies. Under the 1956 Act, private companies are completely free to self-regulate the manner of appointment. That the 2013 Act will make the law more restrictive for private companies, than even for public companies, was actually surprising. However, this anomaly does not seem to have attained the attention of the MCA, and therefore, there is no relief from sec. 152 (6).

While the whole process of retirement by rotation should be inapplicable to private companies, the MCA seems to have retained this illogical extension to private companies, and instead, has proposed a minor relief in terms of the need for a pre-deposit of money for proposal to appoint a director in place of those retiring by rotation. This is the proposed exemption from sec 160.

Shareholder deposits in case of private companies:

Once again, a hugely unpopular provision of the new Act, presently creating tremendous difficulty for private companies, is the extension of provisions applicable to public deposits in case of loans from shareholders taken by private companies. As the idea of the law is to discipline public deposits, extending public deposit regulation to member deposits, taken by aprivate company, seems a contradiction in terms. As the last date for filing the relevant form is 30^th June 2014, there is a lot of tension currently among all private companies, which had taken loans from their own shareholders under the previous regime when such loans were exempted.

Now, MCA proposes a partial, conditional exemption from sec 73. The exemption comes with a monetary cap – 25% of net worth, or 100% of paid up capital , whichever is higher, and with a requirement to file a prescribed form with the Registrar.

On a policy ground, if a private company is admittedly a private concern, it is antithetical to say that private company deposits are public deposits. More importantly, if shareholders of private companies have their personal savings, does it not make sense for them to put their money into their own company, instead of parking the same elsewhere? The blanket bar on the shareholder deposits in case of private companies seemed completely unreasonable – therefore, the conditional exemption, though welcome, is yet a half-hearted relief.

Capital issues and private placements:

There is virtually very little relief in case of issue of capital by private companies. The 2013 Act came with a highly restrictive regime in case of private placements. The provisions, in sec. 42, were obviously inspired by Sahara. There is a labyrinth of procedure in case of private placements by all companies, private companies included. Every private placement requires a prior and separate special resolution, a separate bank account, offer letter, and so on. That restriction is further intensified by sec. 62 (1) (c ) providing that every time there is a private placement, there will a valuation of shares too.

Logically, the whole concept of private placements does not apply to private companies, as any offer of shares by private companies has to be private placement. Private companies cannot make any public offer anyway.

The proposed exemption notification gives no relief from sec. 42, or sec 62 (1) (c ) . The only minor relief is from the minimum time for which a rights issue has to be kept open – which has been reduced from 15 days to 7 days. This, interestingly, seems to indicate that the regulator is convinced that rights issue provisions should actually apply to private companies. Corporate laws generally elsewhere in the World, and in India all these years, did not apply rights issue provisions to private companies at all.

General meeting provisions:

General meeting provisions, contained in sections 101 to 107, and the provisions about demand for poll etc in sec 109, are proposed to be exempted in case of private companies. However, sec 108 on electronic voting is proposed to be retained. There are only handful of private companies which have 1000 or more members (where this provision actually applies). Hence, the idea of not exempting e-voting at general meetings in case of private companies does not seem understandable.

Also, the requirement for postal ballots has not been exempted in case of private companies. The requirement kicks in case of companies having more than 200 members. Note that some private companies may have lots of employee or former employee shareholders, and therefore, their number of members may be far exceeding the usual limit of 50 members, now, 200.

Cheers for chartered accountants:

Chartered accountants – cheer up! The limit on 20 company audits has now been proposed to be made inapplicable in case appointment of auditors by a private company. Therefore, an auditor may audit as many private companies as he may want. This comes as a major relaxation for auditors who faced a reduced number of company audits – 30 as per previous law. Effectively, if an auditor is having audits of more than 20 private companies, he cannot be appointed auditor of a public company. But the said auditor may take up audit of any number of private companies.

Vinod Kothari, a company law practitioner for over 25 years, is a specialist editor of Ramaiya’s Company Law and author of Understanding Companies Act 2013.

MoneyControl