Applicability of NFRA Rules on overseas subsidiaries and associates: Conflict between the Rules and FAQs

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Pammy Jaiswal

Partner, Vinod Kothari and Company

 

Background

National Financial Reporting Authority (‘NFRA’) being a quasi-judicial authority has been empowered by the Central Government to independently regulate and monitor the accounting and auditing standards (‘A&AS’). The intent of NFRA is to oversee the quality of A&AS of large entities as mentioned under Rule 3 (1) of the NFRA Rules.

Evidently NFRA intends to oversee the A&AS of large entities in terms of being listed or the size of the company or being functionally different entities like electricity companies or insurance companies, etc. Such entities have the presence of its subsidiaries and associates all around the world which may be contributing materially in terms of Rule 3 (1) (e) of the NFRA Rules to the net worth and turnover of the Indian parent entity.

While the last date for filing one time return by bodies corporate is approaching fast i.e. 31st July, 2019, there seems to a lot of ambiguity in the applicability of the NFRA Rules.

This note has been prepared with the intent to showcase the conflict between the provisions of the Companies Act, 2013 (‘Act’) read with its allied Rules and the FAQs issued by NFRA.

Various Provisions of the Act applying to bodies corporate

  • Applicability section of the Act

The first section of the Act laying down the applicability of the Act clearly mentions the following under clause (f) of sub-section (4) – “such body corporate, incorporated by any Act for the time being in force, as the Central Government may, by notification, specify in this behalf, subject to such exceptions, modifications or adaptation, as may be specified in the notification.”

This provision makes it very clear that the Ministry of Corporate Affairs (‘MCA’) has been vested with the powers of applying the provisions of the Act to any bodies corporate. Further, the provision is also quite clear that such body corporate may be either incorporated under the Act or any other Act. This implies that even for foreign companies, the MCA has the power to apply the provisions of the Act subject to the changes as may be notified.

  • Definition of the term body corporate

Section 2 (11) defines the term ‘body corporate’ to include a company incorporated outside India. Here also, the intent of law is explicitly clear to cover the bodies corporate governed by foreign laws.

  • Chapter 22 of the Act

Section 379 (2) of the Act provides that a foreign company which is substantially owned and controlled by an Indian citizen or by an Indian company is required to comply with the provisions of the Act as mentioned thereunder.

Areas of conflict

While the consolidated financial statements of the Indian parent entities include the accounts of the subsidiaries and associates also, it cannot be argued that the quality of auditing and accounting is anywhere less relevant than the A&AS of the Indian parent. Therefore, it seems in fitness of things under clause (e) of Rule 3 (1) of the NFRA Rules to include foreign subsidiary and associates if they fulfil the condition of materiality under the said Rules (foreign subsidiaries and associates whose income or net worth exceeds 20% of the consolidated income and net worth of the Indian parent [‘material subsidiaries and associates]).

However, the FAQs[1] issued by NFRA have taken a different stand altogether with respect to the applicability of the NFRA Rules. It states that only those material subsidiaries and associates are covered under the scope which are having place of business in India.

While it sounds very surprising that if this wouldn’t have been the case, the condition of the foreign subsidiaries and associates which has an Indian parent, doing business back in India is very unlikely.

In any event, if merely by not having a business in India absolves the material subsidiaries and associates from the overview of the NFRA that would frustrate the whole intent and objective of the NFRA and allow such subsidiaries and associates to escape from the regulation of NFRA by virtue of the additional clause in the FAQs.

It seems that this condition of having business in India should have either be mixed with section 379 of the Act which talks about foreign companies having business in India or should may have actually been intended to be referred to the Indian parent’s business in India.

Further, if the question is one of jurisdiction as of how the Act extends its application to foreign bodies corporate not having business in India is concerned, it may be noted that section 1 (4) of the Act allows the Central Government to extend the provision of Act to bodies corporate, and it may therefore, it may be construed that in a manner of speaking is actually extended to foreign bodies corporate which have a business connection in India by virtue of having an Indian parentage.

Conclusion

One of the major questions in front of the stakeholders is the jurisdiction of NFRA which the FAQs have seemingly restricted to bodies corporate having place of business in India. However, considering the other provisions of the Act, it is quite clear that NFRA has been constituted not only to govern the auditors registered in India but also those in abroad as MCA has left number of provisions open under the Act which applies to bodies corporate.

If one interprets the applicability of NFRA on Indian bodies corporate, the whole intent and object of setting this regulatory body will get frustrated.

Related articles –

  1. https://vinodkothari.com/2019/07/faqs-on-national-financial-reporting-authority-nfra-rules-2018/
  2. https://vinodkothari.com/wp-content/uploads/2019/07/MCA-Notifies-NFRA-Rules.pdf

 

[1] https://nfra.gov.in/sites/default/files/FAQ.pdf

Supreme Court’s status-quo on Essar Steel-How the tables could turn for ArcelorMittal!

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– CS Megha Mittal

(mittal@vinodkothari.com)

[This article is intended for academic debate on the law around powers of the Committee of Creditors vis-à-vis the adjudicatory authorities, as it continues to evolve] Read more →

Car Leasing In India: ‘Breaking the Stereotypical Definition Of Luxury’

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Julie Mehta (julie@vinodkothari.com)

Introduction

Who thought hiring was even an option to enjoy the luxury of having to use a car. But with the world undergoing a paradigm shift, it untapped its energies into providing and establishing better services for its customers, leasing has paved its way into existence. Most of the industries have adopted this concept and structured their services accordingly in order to provide the best they can to their customers, but that requires huge understanding of their needs. A commoner would always be awed by the immensely developing technology and the environment around them but limited resources makes them take a step back from the thought of availing such services. The market had its solution as hiring and renting came into picture. This has ensured dreams do come true.

Car has always been a luxury at least in most parts of India because of the fact that India still in its developing stage and there still remains a big gap between the rich and the poor and the middle income families fall nowhere. Indians have been developed with the mind state that not everyone can afford everything and thus one should limit their demands keeping in mind their pocket potential. The concept of hiring and renting is not only limited to houses and properties but with the advent of MNC’s and startup companies, they have widened the scope of bringing in the concept of hiring even furniture, vehicles, electronic equipment’s, etc.

Earlier, the concept of car leasing was only limited to corporate senior executives that was earlier known as ‘corporate leasing’ and was common for the luxury car brands. But slowly it has trickled down and become accessible to commoners and middle income families. Companies like Mahindra & Mahindra made some of its models available for leasing. Following this concept, several other car brands like Hyundai, TATA group and luxury brands like BMW, Mercedes etc. have also opened their doors to providing the lease facilities.

Car leasing and rental is one of the most lucrative and fast growing segment of the automobile sector in India even though it currently represents only 4-5% of the market in terms of absolute number of vehicles, but its future prospects are strong enough.

Factors like increasing popularity of app-cab providers like Ola, Uber, Zoom car cab booking facilities, rapid urbanization, relocation of rural population into cities, adds on to the potential of car leasing in India.

[1]The growth of the market in India is to ensure manifold growth in its CAGR by 15-20% in the coming ten years and further on making hiring of cars simpler eventually with current worth of Rs. 1500 crores. Most car making companies are making 40% of its business from leasing cars. This has largely helped change the mentality of customers and imbibed the fact that ‘why buy when you can lease it’.

 

Yellow number plates or white number plates?

People remain apprehensive about the color of the number plate they use in the car. While a yellow number plates denotes commercial use, white number represents personal use. People taking cars on lease will of course want white number plates on their cars.

The current legal framework for registration of motor vehicles allow cars taken on lease for personal use to bear white number plates.

In case of a car taken on lease, the lessee is the person having possession of the vehicle and hence, the ‘owner’ as per the Motor Vehicles Act, 1988. Further, since it is the lessee who is actually using the car and the same has not been given on hire or used for any other commercial purpose, the car shall have a white number plate.

 

Global Status of Car Leasing

Globally, car leasing and hiring has been prevalent and growing for many years now. The analysts have forecasted that in the coming years, the global leasing market is to grow at a CAGR of 13-15%. This is gaining momentum due to the development of new mobility concepts by car leasing companies. For example, telematics was introduced in leased vehicles to monitor their usage on the job, another technological development was the installation of navigation in the leased vehicles making it more convenient for the lessor. People want change and with such facilities where there is an added benefit of not burning the pockets of customers, the lease scheme always works to hire cars on lease and cancel the contract anytime to shift on to better and advanced models of cars.[2]

The new trends dominating the global markets are the introduction of electric vehicle leasing and environment friendly cars that lead to sustainable development in the car manufacturing industries as well in the overall environmental situation. Such facilities encourage people to be more socially responsible and to do their bit towards the betterment of the society and also getting the leasing benefit out of it. Governments across the world are offering subsidies and tax benefits to encourage and boost the penetration of electric vehicles in their fleet. They have also introduced the concept of leasing old cars which helps reduce wastage as well as optimum usage. It is offered at a highly considerate premium and is attractive for low income customers. The global leasing market is fast moving with efficient strategies that ensures further growth too.

 

[3]Why has Leasing gained popularity in recent times?

GST introduction has come out to be a source of relief in time of distress for the Indian markets and consumers due to the stiff tax system of the country resulting in poor market functioning. With the introduction of ‘Goods and Services Tax’ on July 1, 2017, times have changed for the consumers, dealers as well as manufactures and has helped bring stability and balance in the economy by considering every person and their transaction at par, with the motive to bridge the gap between rich and poor in the long run. Evaluating their benefits below taking into consideration automobile industry:

  • To the consumers: The new tax regime has resulted in significant reduction in the tax rates imposed on the end consumers in comparison to the previous tax system.
  • To the dealers: The benefit of claiming the tax paid earlier benefits the dealers with the introduction of GST provides an added advantage to the dealers.
  • To the manufacturers: In recent times, car manufacturing companies have marked a fall in their sales which has led to dwindling profits. With the increasing exposure to car leasing, manufacturers have found their resort to stabilise their performance. This option induces customers to opt for leasing, thereby ensuring good business to the car manufacturers.
 CAR TYPE GST RATES COMPENSATION CESS TOTAL
Small Cars 28% 1% or 3% (depending on capacity) 29% or 31%
Mid-segment Cars 28% 15% 43%
Large Cars 28% 17% 45%
Sports Utility Vehicles (SUV’s) 28% 22% 50%
Electric Cars 12% N.A. 12%

Numerical Comparison

To understand the calculation of Loan EMIs and Lease rentals, we structure an example with the concept of residual model to distinguish the calculations of both the alternatives.

Any loan transaction requires an initial down payment to the seller after which installments follow on monthly/quarterly/annually basis. The down payment creates an extra outflow on part of the buyer on loan along with additional installments. While no down payment is required in case of a lease that makes its overall outflow on the lower side in comparison to a loan.

Plus, in case of a lease transaction, the lessor takes an exposure on the residual value of the asset, this brings down the lease rentals per month.

In the example below, with the assumption of different rates of residual value, we understand that with the every increase in the percentage of residual value, the lease rentals of the operating lease borne by lessee comes down. This implies lower the term of the lease contract, lesser value of the asset is used, and thus lesser are thee lease rentals.

Details of the Vehicle  
Unit Cost 1000000.00
GST rate 28%
Compensation Cess 17%
Rate of GST 45%
GST 450000.00
Total 1450000.90
When Residual Value is considered to be 20%
Operating lease arrangement    
Basic price 1000000.00  
Add GST on purchase (ITC eligible) 450000.00  
Funding Amount 1450000.00  
Processing fees 3.80% 55100.00
Expected Residual Value 20% 200000.00
Tenure 48  
IRR 18%  
Lease Rentals (RV not factored) ₹ 42,593.75  
Lease Rentals (before passing GST benefit) ₹ 39,718.75  
Input tax credit percentage 100%  
Less: GST benefit ₹ 9,375.00  
Lease Rentals (after passing GST benefit) ₹ 30,343.75  
Add: GST on rentals ₹ 13,654.69  
Total inflow ₹ 43,998.44  
 
Loan arrangement    
Loan amount 1450000.90  
Processing fees 3.80% 55100.0342
Expected Residual Value 0% 0
Tenure 48  
IRR 18%  
EMI ₹ 42,593.78  

 

When Residual Value is considered to be 25%
Loan arrangement    
Loan amount 1450000.90  
Processing fees 3.80% 55100.0342
Expected Residual Value 0% 0
Tenure 48  
IRR 18%  
EMI ₹ 42,593.78  

 

Operating lease arrangement    
Basic price 1000000.00  
Add GST on purchase (ITC eligible) 450000.00  
Funding Amount 1450000.00  
Processing fees 3.80% 55100.00
Expected Residual Value 25% 250000.00
Tenure 48  
IRR 18%  
Lease Rentals (RV not factored) ₹ 42,593.75  
Lease Rentals (before passing GST benefit) ₹ 39,000.00  
Input tax credit percentage 100%  
Less: GST benefit ₹ 9,375.00  
Lease Rentals (after passing GST benefit) ₹ 29,625.00  
Add: GST on rentals ₹ 13,331.25  
Total inflow ₹ 42,956.25  
When the Residual Value is considered to be 30%
Loan arrangement    
Loan amount 1450000.90  
Processing fees 3.80% 55100.0342
Expected Residual Value 0% 0
Tenure 48  
IRR 18%  
EMI ₹ 42,593.78  

 

Operating lease arrangement    
Basic price 1000000.00  
Add GST on purchase (ITC eligible) 450000.00  
Funding Amount 1450000.00  
Processing fees 3.80% 55100.00
Expected Residual Value 30% 300000.00
Tenure 48  
IRR 18%  
Lease Rentals (RV not factored) ₹ 42,593.75  
Lease Rentals (before passing GST benefit) ₹ 38,281.25  
Input tax credit percentage 100%  
Less: GST benefit ₹ 9,375.00  
Lease Rentals (after passing GST benefit) ₹ 28,906.25  
Add: GST on rentals ₹ 13,007.81  
Total inflow ₹ 41,914.06  

 

Conclusion

The major differentiating factors between a lease and a loan is that the former gives the right to use the asset without any upfront down payment, however, in case of the latter, there is an upfront down payment. Leasing works better when the lessor takes exposure on a handsome amount of residual value. Otherwise, it will turn out to be costlier than loan.

In the coming years, the car leasing market in India will be prospering as most car brands have now started to expand their services to even leasing now, which wasn’t prevalent until the last 4-5 years. With this competitive spirit, many more well developed brands would undertake this strategy to enhance customer base. The statistics of no: of cars being sold is going through a falling spree currently and is expected to fall further. But the leasing market will be flourishing on the other hand. It provides the ‘Best of Both Worlds’ to the customers as well as benefits the owner who still retain the ownership of the cars and gain benefit out of it.

 

[1] http://www.businessworld.in/article/-India-s-Car-Leasing-Market-Is-Worth-Rs-1-5K-Cr-Poised-For-15-20-CAGR-/27-05-2017-119041/

[2] www.statista.com

[3]http://www.cbic.gov.in/resources//htdocs-cbec/gst/notification05-compensation-cess-rate.pdf;jsessionid=B47A84DD8CE463AF356CD17117E2316B

[4]https://www.statista.com/outlook/270/119/car-rentals/india#market-arpu

 

 

Distinguishing between Options and Forwards

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By Falak Dutta (rajeev@vinodkothari.com)

Ruling of Bombay High Court

The Bombay High Court on March 27, 2019, in the case of Edelweiss Financial Services v. Percept Finserve Pvt. Ltd.[1], ruled out an award passed by a sole arbitrator with respect to a share purchase agreement (SPA). The High Court allowed enforcing of a put option clause to be exercised by Edelweiss, the appellant, to sell back the shares it had acquired from Percept Group, the respondent.

Before delving into the proceedings of the aforesaid case, it is important to understand certain basic concepts, to appreciate the ‘option clause’ in the case. An option is a derivative contract which gives the holder the right but not the obligation to buy (call) or sell (put) the underlying within a stipulated time in exchange for a premium. Options are not just traded on exchanges but are also used in debt instruments (eg. callable and puttable bonds), private equity and venture capital investment covenants. Even insurance is a type of option contract where the insured pays monthly premium in exchange of a monetary claim upon the future occurrence of a contingent event (accident, disease, damage to property etc.).

 

Facts of the case

Edelweiss Financial Services Pvt. Ltd. entered into a share purchase agreement (SPA) dated 8, December, 2007 with the Percept Group where it invested in the shares of Percept Group subject to a condition that the latter shall restructure itself as agreed between the parties followed by an IPO. Under the terms of the SPA, the appellant (Edelweiss) purchased 228,374 shares for a consideration of Rs. 20 crores. One of the conditions in the agreement, required Percept to entirely restructure by 31st December, 2007 and to provide proof of such restructuring. Upon failure of compliance by the respondent, the date was further extended to 30 June, 2008 with obligation to provide documentary evidence of completion by 15th, July 2008. Upon non-fulfillment within the extended date, Edelweiss had the option to re-sell the shares to Percept, where Percept was obligated to purchase the shares at a price which gave the appellant an internal rate of return of 10% on the original purchase price.

As was the case, Percept failed to restructure itself within the stipulated time. Subsequently in view of this breach Edelweiss exercised the put option and Percept was required to buy back the shares for a total consideration of Rs. 22 crores. Since the respondent refused to comply the appellant invoked the arbitration clause in the SPA and a sole arbitrator was appointed to adjudicate the dispute. The arbitrator submitted that despite Percept being in breach of the conditions in the SPA, the petitioner’s claim to exercise the put option was illegal and unenforceable, being in conflict with the Securities Contracts regulation Act (SCRA), 1956. The unenforceability was proposed on two grounds. First, for the clause being a forward contract prohibited under Section 16 of SCRA read with SEBI March 2000 notification, which recognizes only spot delivery transactions to be valid. Secondly these clauses were illegal because they contained an option concerning a future purchase of shares and were thus a derivatives contract not traded on a recognized stock exchange and thus were illegal under Section 18 of SCRA, which deals with derivative trading.

Aggrieved by the arbitrator’s order, Edelweiss challenged it before the Bombay High Court under section 34 of the Arbitration & Conciliation Act, 1996.

 

The Judgement

The Bombay High Court observed the reasoning of the order by the arbitrator and the contentions made by Percept. The said order confirmed the breach caused by Percept, but found the particular clauses of put option in the SPA to be illegal under two grounds as mentioned earlier. The Court divided the judgement along the sections involved.

The first of the arbitrator’s conclusion was found untenable when referred to the judgement in the case of MCX Stock Exchange Ltd. vs. SEBI [2]which deals with such a purchase option as in the present case. The Court observed that the put option clause contained in the SPA cannot be a derivatives contract prohibited by SCRA, because there was no present obligation at all and the obligation arose by reason of a contingency occurring in the future. The contract only came into being upon the following two conditions being met: (i) failure of the condition attributable to Percept (ii) exercise of the option by Edelweiss upon such failure. Whereas a forward contract is an unconditional obligation, the option in the SPA only comes into being when the aforesaid conditions are met. Thus, the arbitrator’s claim of the clause being a forward contract disregards the law stated by the Court in MCX Stock (supra).

Subsequently, respondent (Percept Group) challenged the relevance of the MCX Stock case to the present one. In the MCX Stock Exchange case, upon the exercise of the option the contract would be fulfilled by means of a spot delivery, that is, by immediate settlement. Whereas Edelweiss’s letter by which it exercised the put option required the shares to be re-purchased with immediate effect or before 12 Jan, 2009. This deferral of repurchase upon exercise of the option was not part of the MCX Stock Exchange case’s option clause and hence is not comparable to the present case.

This too was disregarded by the Court on the ground:

“It is submitted that in as much as this exercise of options demands repurchase on or before a future date, it is not a contract excepted by the circular of the SEBI dated 1 March, 2000.

Just because the original vendor of securities is given an option to complete repurchase of securities by a particular date it cannot be said that the contract for repurchase is on any basis other than spot delivery.

There is nothing to suggest that there is any time lag between payment of price and delivery of shares.”

Now, this brings us to the second leg of the arbitrator’s award regarding the illegality and unenforceability of the SPA option on account of breach of Section 18A of SCRA, which deals in derivative trading. The following is an excerpt from Section 18A:

Contracts in derivative. — Notwithstanding anything contained in any other law for the time being in force, contracts in derivative shall be legal and valid if such contracts are—

(a)Traded on a recognized stock exchange;

(b) Settled on the clearing house of the recognized stock exchange. In accordance with the rules and bye-laws of such stock exchange.

The respondent appeals that as the put option was not of a recognized stock exchange, it stands unenforceable and illegal. In response, the court submitted that the contract does contain a put option in securities which the holder may or may not exercise. But the real question is whether such option or its exercise is illegal? The presence of the option does not make it bad or impermissible.

“What the law prohibits is not entering into a call or put option per se; what it prohibits is trading or dealing in such option treating it as a security. Only when it is traded or dealt with, it attracts the embargo of law as a derivative, that is to say, a security derived from an underlying debt or equity instrument.”

There was further cross objections filed by the respondent but it was ruled out under Section 34 of the Arbitration & Conciliation Act, which deals with the application for setting aside arbitral award. Since the provisions of Civil Procedure Code, 1908 are not applicable to the proceedings under Section 34 and the section itself does not make any provision for filing of cross objections, the appeal was ruled out.

Conclusion

This Bombay High Court ruling in favor of Edelweiss provides an important distinction of options, from forward contracts. It highlighted that although both options and forwards are commonly categorized as derivatives, they share an important difference. On one hand, a forward contract contains a contractual obligation to buy or sell, on the other hand, the option gives the holder the right or choice but not the obligation to do the same. Options have always been integral to finance, routinely appearing in corporate covenants and contracts. Options are widely observed in mezzanine financing, private equity, start-up and venture funding among others. Given the Court’s distinction of forwards from options in their very essence and nature, the author believes this ruling is likely to be useful and a point of reference in future derivative litigations.

 

[1]https://bombayhighcourt.nic.in/generatenewauth.php?auth=cGF0aD0uL2RhdGEvanVkZ2VtZW50cy8yMDE5LyZmbmFtZT1PU0FSQlAxNDgxMTMucGRmJnNtZmxhZz1OJnJqdWRkYXRlPSZ1cGxvYWRkdD0wMi8wNC8yMDE5JnNwYXNzcGhyYXNlPTA0MDYxOTEwMDAyOQ==

[2] https://indiankanoon.org/doc/101113552/

FAQs on National Financial Reporting Authority (NFRA) Rules, 2018

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Union Budget 2019-20: Impact on Corporate and Financial sector

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RBI to strengthen corporate governance for Core Investment Companies.

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Vinod Kothari

As a part of the Bi-monthly Monetary Policy on 6th June, 2019, the RBI’s review of Development and Regulatory Policies [https://rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=47226] proposed to set up a working group to strengthen the regulatory framework for core investment companies (CICs). The RBI states: “Over the years, corporate group structures have become more complex involving multiple layering and leveraging, which has led to greater inter-connectedness to the financial system through their access to public funds. Further, in light of recent developments, there is a need to strengthen the corporate governance framework of CICs. Accordingly, it has been decided to set up a Working Group to review the regulatory guidelines and supervisory framework applicable to CICs.”

Core investment companies are group holding vehicles, which hold equities of operating or financial companies in a business group. These companies also give financial support in form of loans to group companies. However, CICs are barred from dealing with companies outside the group or engaging in any other business operation.

Currently as per the data as on 30th April, 2019, there are only 58 registered CICs in the country. There may be some unregistered CICs as well, since those not having “public funds” do not require registration.

If a CIC is not holding “public funds” (a broad term that includes bank loans, inter-corporate deposits, NCDs, CP, etc.), the CIC is exempt from registration requirement. Presumably such CICs are also excluded from any regulatory sanctions of the RBI as well. However, it is quite common for CICs to access bank loans or have other forms of debt for funding their investments. Such CICs require registration and come under the regulatory framework of the RBI, if their assets are worth Rs 100 crores or more.

Corporate governance norms applicable to systemically important NBFCs are currently not applicable to CICs.

The RBI has observed that CICs are engaged in layering of leverage. This observation is correct, as very often, banks and other lenders might have lent to CICs. The CICs, with borrowed money, use the same for infusing capital at the operating level below, which, once again, becomes the basis for leveraging. Thus, leveraged funds become basis for leverage, thereby creating multiple layers of leverage.

While agreeing with the contention of the RBI, one would like to mention that currently, the regulatory definition of CICs is so stringent that many of the group holding companies qualify as “investment companies” (now, credit and investment companies) and not CICs. There is a need to reduce the qualifying criteria for definition of CICs to 50% of investments in equities of group companies. This would ensure that a large number of “investment companies” will qualify as CICs, based on predominance of their investments, and would be viewed and regulated as such.

Prominent among the registered CICs are entities like Tata Sons, L&T Finance Holdings, JSW Investments, etc. The extension of corporate governance norms to CICs is unlikely to benefit any, but impact all.

The Reserve Bank has accordingly constituted the Working Group to Review Regulatory and Supervisory Framework for Core Investment Companies on 3rd July, 2019 [https://rbidocs.rbi.org.in/rdocs/PressRelease/PDFs/PR43DDEE37027375423E989F2C08B3491F4F.PDF]. The Terms of Reference (ToR) of the Working Group are given below:

  • To examine the current regulatory framework for CICs in terms of adequacy, efficacy and effectiveness of every component thereof and suggest changes therein.
  • To assess the appropriateness of and suggest changes to the current approach of the Reserve Bank of India towards registration of CICs including the practice of multiple CICs being allowed within a group.
  • To suggest measures to strengthen corporate governance and disclosure requirements for CICs
  • To assess the adequacy of supervisory returns submitted by CICs and suggest changes therein
  • To suggest appropriate measures to enhance RBI’s off-sight surveillance and on-site supervision over CICs.
  • Any other matter incidental to the above.

As per the press release, the Working Group shall submit its report by October 31, 2019.

MCA set to deploy the eForm for reporting details of SBOs

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Ambika Mehrotra

corplaw@vinodkothari.com

Background

Amendment to Section 89 and insertion of Section 90 are one of the key amendments brought in by the Companies (Amendment) Act, 2017 (‘Amendment Act’).  The said provisions were enforced w.e.f. June 14, 2018and Companies (Significant Beneficial Owners) Rules, 2018 were notified[1] (‘SBO Rules’). MCA, thereafter, issued General Circular No 7/ 2018[2]for extending the last date of filing eForm BEN-2 and 08/ 2018[3] to the effect that the format of declaration to be submitted by Significant Beneficial Owner (SBO) will undergo revision.

MCA on February 8, 2019[4] amended SBO Rules by amending the definition of significant beneficial owner. The due date for submission of declaration in Form BEN-1 was 90 days from the said amendment. However, eForm for filing the said declaration with MCA was not made available.

MCA, on July 1, 2019, issued Companies (Significant Beneficial Owners) Second Amendment Rules, 2019[5]thereby notifying eForm BEN-2 required to be submitted by companies.

Scope of Section 90

Section 90 focuses on the identification of a ‘significant beneficial owner’ through his ‘indirect holdings’ in an entity, which is to be considered only where the individual has majority interest in the vehicle holding stake in the “reporting company”, or in the ultimate holding entity of such holding vehicle. That is to say, simply direct holding or direct control, or direct significant influence (without any indirect holdings) were not required to be reported as significant beneficial interest under the Rules, irrespective of the magnitude of direct holding. Therefore, the direct holding of interest by an individual is relevant only if the direct holding may be clubbed with indirect holding.

Onus of making the declaration

The individual holding significant beneficial interest by virtue of holding shares or voting rights or right to distributable dividend or exercising significant influence was required to furnish the declaration in Form No. BEN-1 within 90 days of February 8, 2019 and thereafter in case of any change, to the reporting company. Herein, the onus lies on the individual to come forward and submit the declaration. The reporting companies on the other hand were required to give notice to members (other than individual) holding 10% or more of participating interest [either of shares, voting rights, or right to receive or participate in the dividend or any other distribution],  seeking information about the individual who is significant beneficial owner in the reporting company in Form BEN-4.

It is pertinent to note that the obligation of the individual to self-declare his significant beneficial holdings and the obligation of the company to send notice seeking information from members in terms of Rule 2Aare independent obligations.

Intimation to the ROC by the reporting entity

As per the SBO Rules as amended from time to time, the declaration of beneficial interest is required to be filed in e- Form BEN-2 with the Registrar in respect of such declaration, within a period of thirty days from the date of receipt of declaration by the company.

With the deployment of e-Form BEN -2 vide Companies (Significant Beneficial Owners) Second Amendment Rules, 2019, the Companies shall be required to intimate the same to the Registrar within 30 days of its deployment.

Companies are facing difficulty in identification of SBO in view of complex structures. Until receipt of declaration in Form BEN-1, companies will not be able to file eForm BEN-2.

Consequences of non-filing

Section 90(11) of the Act, 2013 provides for penal provisions for the failure of the part of the company and every officer in default in complying with the provisions of Section 90(4) i.e. filing of the above return  and changes therein with the Registrar with a fine:-

  • For company and every officer in default:- Rs. 10 Lakhs – Rs. 50 Lakhs
  • For Continuing default: – Upto Rs. 1000 for every day after first day of failure.

Analysis of e-Form BEN -2

  • Declaration of holding reporting company

 Pursuant to Rule 8 of the SBO Rules, which states that the rules are not applicable to the extent the shares of the reporting company is held by its holding reporting company. It is presumed that the SBO of the holding company is also the SBO of the subsidiary company for the shares held by the holding company.

First bullet of Field no. 3 requires the companies to report the details of such holding reporting company which shall be mapped through the CIN of such company.

  • Requirement to furnish copy of agreement

 In order to specify the manner in which significant beneficial interest is being held or exercised either indirectly or together with any direct holding or right, the form requires attachment of agreement in following cases:

  1. Exercise of control
  2. Exercise of significant influence

 This might be a serious constraint, as it may not be necessary that the companies might have in place a written and executed agreement specifying the control and/ or significant influence exercised by the members. However, at present the mode of mapping of control and/ or significant influence has only been done through the agreement to be attached in the form.

Conclusion

While, the eForm BEN-2 seems a derivative of the format of declaration Form BEN no. 1, companies will be able to report correctly subject to receipt of accurate declarations from the SBOs.

Other practical difficulties in reporting in the eForm can be ascertained once the eForm is deployed on MCA portal.

 

Other related articles on SBO can viewed here-

https://vinodkothari.com/2019/02/mca-revisits-sbo-rule/

https://vinodkothari.com/wp-content/uploads/2019/03/Final-FAQs-on-revised-SBO-Rules_17.03.2019-1.pdf

https://vinodkothari.com/wp-content/uploads/2019/03/Guide-to-identification-of-SBO-in-your-Company.pdf

https://vinodkothari.com/2019/02/new-sbo-rules-illustrations/

https://vinodkothari.com/wp-content/uploads/2019/02/Amended-SBO-Rules.pdf

 

[1]http://www.mca.gov.in/Ministry/pdf/CompaniesSignificantBeneficial1306_14062018.pdf

[2]http://www.mca.gov.in/Ministry/pdf/GeneralCircularNo.7_06082018.pdf

[3]http://www.mca.gov.in/Ministry/pdf/GCCircularBen_10092018.pdf

[4]http://www.mca.gov.in/Ministry/pdf/CompaniesOwnersAmendmentRules_08020219.pdf

[5]http://www.mca.gov.in/Ministry/pdf/CompaniesSignificantRules_01072019.pdf