Abridged Board’s Report for Small Companies and OPC

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By Simran Jalan (corplaw@vinodkothari.com)

Background:

MCA vide its notification dated July 31, 2018[1] has brought the Companies (Accounts) Amendment Rules, 2018 which broadly deals with two changes:

  1. Additional disclosures for companies other than small companies and OPCs;
  2. Abridged list of contents for small companies and OPCs

Even though the aforesaid amendment in the said Rules have been brought in line with the proposed changes in section 134 of the Companies Act, 2013 (‘CA, 2013’) under the Companies (Amendment) Act, 2017, however, the said amended section has not been enforced till date.

Additional disclosures for companies other than small companies and OPCs:

The additional disclosures required to be made are with respect to:

  • Maintenance of cost records in accordance with section 148(1) of the CA, 2013 in case the same is applicable on such company.
  • A statement on constitution of Internal Complaints Committee under the Sexual Harassment of the Women at workplace (Prevention, prohibition and Redressal) act, 2013.

Relief for small companies and OPCs:

The Rules state that small companies and OPCs are not required to make the disclosures stated under Rule 8. Instead, as per Rule 8A of the aforesaid Rules, an abridged list of disclosures have been given for small companies and OPCs, which are as follows:

  • The web address of the company, where the annual return has been placed;
  • Number of meetings of the Boards;
  • Director’s Responsibility Statement;
  • Details of frauds s reported by auditors to Central Government as per section 143(12) of the CA, 2013;
  • Explanations or comments by Board on every observation made by the auditor in his report;
  • The state of the Company’s affairs;
  • The financial summary or highlights;
  • The material changes in the nature of business and its effect on the financial position of the Company;
  • The details of appointment/resignation of directors;
  • Details of material orders passed by regulators/courts/tribunals which can impact the going concern status of the company and its operations in future;
  • The Board’s Report shall also include the particulars of the contract or arrangements entered with related parties as per section 188(1) of the CA, 2013 in the Form AOC-2.

Conclusion:

Following the aforesaid change, there are basically three categories of board’s report:

Category I Category II Category III
Listed Company and Public Company with PUSC[2] of Rs.25 crores or more Unlisted Company and every public company with PUSC of less than Rs. 25 crores Small Companies and OPCs
All the matters in the Board’s report as specified in Section 134(3) of the CA, 2013 read with Rule 8 of the Companies (Accounts) Rules, 2014 (‘Account Rules’). All matters in the Board’s report as specified under section 134 (3) of the CA, 2013 read with Rule 8 of the Accounts Rules except for the following:

 

  •  Section 134 (3) clause(p)

“a statement indicating the manner in which formal annual evaluation has been made by the Board of its own performance and that of its committees and individual directors;”

 

  • Rule 8 sub-rule (4) of the Accounts Rules

“a statement indicating the manner in which formal annual evaluation has been made by the Board of its own performance and that of its committees and individual directors.”

 

 All the matters in the Board’s report as specified under Rule 8A of the Accounts Rules.

 

[1] http://www.mca.gov.in/Ministry/pdf/companisAccountsRules_31072018.pdf

[2] PUSC denotes Paid-up Share Capital

 

LOOK- BACK PERIOD VIS-À-VIS FRAUDULENT TRANSACTIONS

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By Richa Saraf  (richa@vinodkothari.com)

Sections 45, 49, 66, 69 of the Insolvency and Bankruptcy Code, 2016 requires and empowers the Liquidator to apply to the Adjudicating Authority for appropriate orders in case of any vulnerable transactions that the Liquidator comes across during the process of liquidation. Such transactions may either be with respect to breach of applicable law, or deleterious to the interests of creditors or stakeholders, or otherwise, not transactions designed to be in good faith. The transactions, whether being undervalued or fraudulent shall be considered vulnerable to the interest of the stakeholders of the Company.

The article hinges on the crucial question of applicability of the limitation to the aforementioned sections. In this regard, we shall discuss how the provisions were imbibed in the Code, despite there being no equivalent in the Companies Act, 2013 or previous Companies Act. The general notion is that limitation should be applicable to all transactions, including fraudulent transactions referred to in Section 49 of the Code. However, the article will explain as to how undervalued transaction, done deliberately without due compliance, partakes the nature of a fraudulent transaction, and since fraud is a nullity forever, in case of such transactions, as covered by Section 49, there is no question of any look- back period at all. Read more →

Prior approval from NHB for 10% change in foreign shareholding

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By Rajeev Jhawar (rajeev@vinodkothari.com)(finserv@vinodkothari.com)

The National Housing Bank (NHB) came out with a notification on 19th July, 2018[1], (‘Notification’) amending the Housing Finance Companies (National Housing Bank) Directions, 2010 with respect to change in control of housing finance companies.

Scenario prior to the Notification

The original provisions issued on 9th February, 2017[2], were influenced from the RBI regulations for non-banking financial companies (NBFCs). As per the said directions, any HFC undergoing any of the following change would require prior approval of the NHB:

  • Change in control or management of the Company;
  • Change in shareholding of the Company, including progressive changes over time, resulting in change in 26% shareholding of the Company;
  • Change in management resulting in change in 30% of the composition of the Board of Directors of the company.

Scenario post Notification

The latest notification has substituted the second criteria with the following clause:

(b) any change in the shareholding of an HFC accepting/holding public deposits, including progressive increases over time, which would result in acquisition / transfer of shareholding of 10 percent or more of the paid up equity capital of the HFC by/to a foreign investor

or

any change in the shareholding of an HFC, including progressive increases over time, which would result in acquisition / transfer of shareholding of 26 per cent or more of the paid up equity capital of the HFC.

Provided that, prior approval would not be required in case of any shareholding going beyond 10% or 26%, as applicable, due to buyback of shares/reduction in capital where it has approval of a competent Court. However, the same is to be reported to the National Housing Bank not later than one month from the date of its occurrence;

The text of the condition remains, barring the portion highlighted above, which happens to be a new insertion.

As its suggests, if a foreign investor having a shareholding of 10% of total paid up capital or more in HFCs intends to transfer the stake or if a foreign investor intends to acquire shareholding of 10% of paid up capital, the HFCs will be required to get an approval from NHB prior to accepting such change.

The phrase “a foreign investor” could be interpreted as a single foreign investor. However, the term “foreign investor” still holds ambiguity due to absence of any definition. Further, since, the intention behind these provisions seems to regulate change in control over HFCs, one can argue that considering only individual shareholding must not be appropriate and one should also consider the holdings of others persons who are acting in concert with the shareholder.

Further, here the term “progressive increase” would imply that while looking at the quantum of shareholding, we can consider a single instance of change. If there are multiple instances of change within a span of time, all of them must be consolidated to see whether the threshold is breached or not.

The same can be explained by way of an example, say, a foreign investor acquires 5% of paid up equity capital of a HFC at the first instance and acquires 5% of the paid up equity capital at the next instance. In the first instance the person is acquiring only 5% of the paid up equity capital, hence the same is not crossing the threshold. However, in the second instance, even though the shareholder is acquiring only 5%, but in aggregate its shareholding is reaching the threshold; hence, a prior approval of the NHB would be required for the acquisition of 5% of paid up equity capital.

Further, though the provisions require us to consolidate progressive changes over time, however, the same is silent on the duration, which should be considered. In this regard, we can draw parallels from the SEBI (Substantial Acquisition of Shares and Takeover) Regulations, 2011[3], which talks about creeping acquisitions. The concept of creeping acquisition is also similar to these provisions, where the acquisitions over a period of time are considered to see if various thresholds under the Regulations are being breached or not. The time limit that has been set for this purpose under the Regulations is 1 year, it is safe to borrow the same for the purpose of these Directions as well.

Conclusion

The changes have been enforced with immediate effect. One of the significant changes introduced has been to seek approval from NHB, in case a foreign investor having a shareholding of 10% of total paid up capital or more in HFCs intends to transfer the stake or a foreign investor intends to acquire shareholding of 10% of paid up capital. The said change would enable NHB to monitor foreign intrusion and hence, ensure improved governance.

[1] http://nhb.org.in/wp-content/uploads/2016/10/Notification-No.-NHB.HFC_.ATC_.DIR_.2-MDCEO-2018.pdf

[2] Notification No. NHB.HFC.ATC-DIR.1/MD&CEO/2016 dated 09th February, 2017

[3] https://www.sebi.gov.in/legal/regulations/apr-2017/sebi-substantial-acquisition-of-shares-and-takeovers-regulations-2011-last-amended-on-march-6-2017-_34693.html

 

 

Will SEBI succeed in trying to create a much needed vibrant Bond Market?

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By Rajeev Jhawar (rajeev@vinodkothari.com) [Updated as on November 27, 2018]

In a vibrant market, resides a healthy economy. On the Budget day, India sought to expand its bond market beyond the traditional ambit of sovereign debt. In pursuant to this, Securities and Exchange Board of India(SEBI) has initiated to diversify borrowings of Indian corporates by mandating to raise at least a quarter of their incremental funds from the bond market.

The regulator came out with a circular dated 26 November 2018, based on the concept paper released on 20 July,2018; targeting all listed entities (whose specified securities, or debt securities or non-convertible redeemable preference share are listed on SEBI’s recognized stock exchange) thereby addressing the liquidity problem persisting in the bond market, with an intention to create a robust secondary market for the debt securities in India.

For the entities following April-March as their financial year, the framework shall come into effect from April 01, 2019 and for the entities which follow calendar year as their financial year, the framework shall become applicable from January 01, 2020.

The requirements brought by SEBI and corresponding inferences

The regulator proposes that the Large Corporates (LC) that are listed companies (whose specified securities or debt securities or non- convertible redeemable preference shares are listed) (excluding Scheduled Commercial Banks) will have to compulsorily raise 25% of their incremental borrowings (being fresh long term borrowings during the FY) from the bond market in the financial year for which they are being identified as LC, as a part of corroborating the same. The term financial year here would imply April-March or January-December as may be followed by the entity.

As per the circular,large corporates would refer to entities

  • having outstanding long-term borrowings of Rs. 100 crores or above.Further, long term borrowings would mean any outstanding borrowing with original maturity of more than 1 year excluding external commercial borrowings(ECBs) and inter corporate borrowings between a parent and subsidiary and,
  • a credit rating of “AA and above”, where credit rating shall be of the unsupported(unsecured) bank borrowing or plain vanilla bonds of an entity, which have no structuring/ support built in; and in case, where an issuer has multiple ratings from multiple rating agencies, highest of such rating shall be considered for the purpose of applicability of this framework.

Lower rated corporates have been exempted from the framework for the time being due to the limited demand for such securities. It is believed that if the 25% norm is followed religiously, it would tantamount to increase bond flotation as more companies would be able to access the debt market. Besides, the government might limit corporates’ dependence on banks and the risk associated with it. However, there is a need for an expansion in the investor base for implementation of these rules.

Rationale

There is no secondary market for corporate bonds in India to speak of. The sorry state of affair could be because of illiquid debt market, bad press in case of default, risk averse attitude as well as dearth of investor’s awareness. On the bright aspect, bonds are ideal way to raise financing for a certain kind of long-gestation infrastructure project. Typically, infrastructure projects are capital-intensive and long-gestation. It takes years to roll out toll-roads, build flyovers and set up massive power generating plants. The project developer has no cash flow to service debt until the project is running and banks may not be considered a viable source as bank funding is short tenure, which would result in asset-liability mismatch.

It is also believed that a sound corporate bond market, would take a lot of pressure off banks, which are reeling under bad debts. Retail investors will also get a chance to invest in such projects via debt funds. In short, large exposure to risk would be substantiated with huge rewards.

Further, in order to ensure investors faith in the company, the rating of ‘AA and above’ has been given preference as corporates with such high rating would have less chance to default on its obligations towards the investors which was demonstrated in the consultation paper also.

Impact on Financier’s Interest

The entry barrier for lower rated corporate bonds would be demolished because the proposal might escalate the pool of investment grade issuers. So far, the small borrowers resorted mostly to institutional finance and inter-corporate deposits. The bond avenue would serve as an alternative for them to raise finance at a reasonable price keeping in mind investor’s perpetual keenness to diversify their investments. It may be useful to classify BBB-rated corporate bonds as investment grade and thus allow pension funds and insurance companies to enter that space.

Disclosure requirements for large entities [1]

A listed entity, identified as a Large Corporate(LC) under the instant framework, shall make the following disclosures to the stock exchanges, where its security(ies) are listed:

  • Within 30 days from the beginning of the FY, disclose the fact that they are identified as a LC, in the format as provided in the circular;
  • Within 45 days of the end of the FY, the details of the incremental borrowings done during the FY, in the formats as provided in the circular;
  • The disclosures made shall be certified both by the Company Secretary and the Chief Financial Officer, of the LC;
  • Further, the disclosures made shall form part of audited annual financial results of the entity.

Compliance

The LCs would need to disclose non-compliance as part of “continuous disclosure requirements”.For FY 19-20 & 20-21, the aforesaid requirement has to be met on an annual basis as on the last day of the FY.In case of failure, explanation as regards to the shortfall has to be made to the stock exchange (SE).

For FY 19-20 & 20- 21, no penalty but explanation will be required.From FY 21-22 onward, the minimum funding requirement has to be met over a block of 2 years. In case of any shortfall of the first year of the block is not met as on the last day of the next FY of the block, a monetary penalty of 0.2% of the shortfall amount shall be levied and paid to SE.The manner of payment of the penalty has not been provided in the Circular but SEs are expected to bring the same.The entity identified as a  large corporate  shall choose any one of the Stock Exchanges (where the securities are listed) for payment of the penalty.

The Stock Exchange(s) shall collate the information about the Large Corporates, disclosed on their platform, and shall submit the same to the Board within 14 days of the last date of submission of annual financial results.

Whether SEBI’s attempt would prove to be a boon or a bane, is likely to be seen as days unfold.

[1] https://www.sebi.gov.in/legal/circulars/nov-2018/fund-raising-by-issuance-of-debt-securities-by-large-entities_41071.html

Interim Compensation to the Payee of the Dishonoured Cheque

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By Shreya (legal@vinodkothari.com)

Background:

Negotiable Instruments are the principal instruments for fulfilling commercial obligations and they play a very significant role in the modern trade and business community. Law relating to negotiable instruments is provided in the Negotiable Instruments Act, 1881(“the Act”) as amended from time to time.

Dishonour of cheque due to insufficiency of funds was made a penal offence by the insertion of Chapter XVII in the Act by the Banking Financial Institutions and Negotiable Instruments Laws (Amendment) Act, 1988. The object of criminalising dishonour of cheque was to regulate the expanding trade, commerce, business and industrial activities, to safeguard the interests of the creditors as well as to ensure greater vigilance in the matters of finance.

The Negotiable Instruments (Amendment) Act, 2017: Objects and Reasons

The Lok Sabha has passed the Negotiable Instruments (Amendment) Act, 2017 (“the Amendment Act”) on July 23, 2018. It shall come into effect on the date appointed by the Central Government by way of a notification in the Official Gazette. The amendment has inserted two provisions, sections 143A and 148 in relation to cheque dishonour cases which empower the trial court and the appellate court, as the case maybe, to order payment of interim compensation during the trial and deposit of certain minimum sum in an appeal by the drawer of cheque against conviction.

In the Statement of Objects and Reasons appended to the Amendment Bill, it was stated that “injustice is caused to the payee of a dishonoured cheque who has to spend considerable time and resources in court proceedings to realise the value of the cheque” on account of “delay tactics of unscrupulous drawers of dishonoured cheques due to easy filing of appeals and obtaining stay on proceedings.” The Amendment Act, thus, seeks to provide relief to payees of dishonoured cheques who get caught up in lengthy litigations and to discourage frivolous and unnecessary litigation.

Salient Features of the Amendment Act:

Under the newly inserted section 143A in the Act, the trial Court has power to order payment of interim compensation by the drawer of the cheque to the complainant. Such payment can be ordered in both summary trial and a summons case (as provided under section 143 of the Act) where the accused drawer pleads not guilty to the charge made in the complaint. In other cases, it can be ordered upon framing of charges. The section has made the payment of interim compensation subject to following conditions:

  1. The interim compensation shall not exceed twenty percent of the amount of the cheque.
  2. The interim compensation is to be paid within sixty days from the date of the order of payment. A further extension of maximum thirty days can be granted if the drawer of the cheque shows sufficient cause.
  3. The interim compensation is to be recovered in accordance with section 421 of the Code of Criminal Procedure, 1973 (“the CrPC”). Section 421 prescribes two modes of recovery of fine- (a) attachment and sale of any movable property of the drawer, (b) recovery as arrears of land revenue from the movable or immovable property of the drawer by way of a warrant issued to the Collector of the concerned district.
  4. If the drawer of the cheque is acquitted, the complainant shall be directed to repay to the drawer the amount of interim compensation along with interest at the bank rate as published by the Reserve Bank of India, prevalent at the beginning of the relevant financial year. The repayment has to be made within sixty days of the date of order of acquittal subject to a further extension of not more than thirty days if the complainant shows sufficient cause for delay.

While Section 143A confers power on the trial Court to order payment of interim compensation, Section 148 empowers the Appellate court to order the drawer to deposit such sum which shall be a minimum of twenty per cent of the fine or compensation awarded by the trial Court. Such deposit is in addition to the interim compensation already paid pursuant to section 143 A. The deposit is to be made subject to the following procedure and conditions laid down in the section:

  1. The amount is to be deposited within sixty days from the date of the order of payment. A further extension of maximum thirty days can be granted if the appellant shows sufficient cause.
  2. The amount deposited may be directed to be released to the complainant at any time during the pendency of the appeal.
  3. If the appellant is acquitted, the complainant shall be directed to repay to the drawer the amount of the deposit along with interest at the bank rate as published by the Reserve Bank of India, prevalent at the beginning of the relevant financial year. The repayment has to be made within sixty days of the date of order of acquittal subject to a further extension of not more than thirty days if the complainant shows sufficient cause for delay.

Analysis:

As already mentioned, dishonour of cheque is a penal offence under section 138 of the Act and it attaches criminal liability to the drawer of the dishonoured cheque. The traditional view is that the object of a criminal proceeding is ‘deterrence’ whereby punishment is imposed on the accused, through fine or imprisonment or both, whereas, the award of compensation or damages is considered to be a characteristic feature of a civil proceeding.

In this regard, reference must be drawn to Section 357 of the CrPC which empowers the Criminal Courts to order payment of compensation.

“357. Order to pay compensation.—(1) When a Court imposes a sentence of fine or a sentence (including a sentence of death) of which fine forms a part, the Court may, when passing judgment, order the whole or any part of the fine recovered to be applied –

XX

(b) in the payment to any person of compensation for any loss or injury caused by the offence, when compensation is, in the opinion of the Court, recoverable by such person in a Civil Court;

XX”

On this issue, the Supreme Court of India in the case of R. Vijayan v. Baby[1] observed that:

“Though a complaint under section 138 of the Act is in regard to criminal liability for the offence of dishonouring the cheque and not for the recovery of the cheque amount, (which strictly speaking, has to be enforced by a civil suit), in practice once the criminal complaint is lodged under section 138 of the Act, a civil suit is seldom filed to recover the amount of the cheque. This is because of the provision enabling the court to levy a fine linked to the cheque amount and the usual direction in such cases is for payment as compensation, the cheque amount, as loss incurred by the complainant on account of dishonour of cheque, under section 357 (1)(b) of the Code and the provision for compounding the offences under section 138 of the Act. Most of the cases (except those where liability is denied) get compounded at one stage or the other by payment of the cheque amount with or without interest. Even where the offence is not compounded, the courts tend to direct payment of compensation equal to the cheque amount (or even something more towards interest) by levying a fine commensurate with the cheque amount.”

The Court further pointed out that the provisions of Chapter XVII of the Act strongly lean towards grant of reimbursement of the loss by way of compensation. The trial courts should, unless there are special circumstances, in all cases of conviction, uniformly exercise the power to levy fine upto twice the cheque amount (keeping in view the cheque amount and the simple interest thereon at 9% per annum as the reasonable quantum of loss) and direct payment of such amount as compensation.

It appears from the language of section 357(1)(b) of the CrPC as well as the above ruling that the intent behind awarding compensation to the payee of dishonoured cheques in a criminal proceeding instituted under section 138 is to facilitate the payee to recover the

amount of cheque without having to initiate a separate recovery suit in a civil court so that matter arising out of the same cause of action is settled in the same court.

In line with the aforesaid, the Amendment Act now expressly provides for compensatory and restitutive provisions in addition to the traditional punitive provisions as regards the dishonour of cheques.

At this juncture, it is relevant to note that section 25(5) of the Payment and Settlement Systems Act, 2007 expressly provides for applicability of Chapter XVII of the Negotiable Instruments Act, 1881 to dishonour of electronic funds transfer. The section makes the dishonour of electronic funds transfer an offence punishable with imprisonment or with fine or both, similar to the dishonour of a cheque under the Negotiable Instruments Act. The Reserve Bank of India vide its circular no. DOC/2011-12/191 DPSS. O.PD.No 497/02.12.004/2011-12 dated September 21, 2011 had clarified that section 25 of the Payment and Settlement Systems Act, 2007 accords the same rights and remedies to the payee (beneficiary) against dishonour of electronic funds transfer instructions for insufficiency of funds in the account of the payer (remitter), as are available to the payee under section 138 of the Negotiable Instruments Act, 1881.

Thus, the payees of dishonoured electronic funds transfer shall also be entitled to the interim compensation on par with the payees of dishonoured cheques.

The Amendment Act, thus, is a welcome development for the payees of dishonoured cheques as well as dishonoured electronic funds transfer, in particular the banks and financial institutions as they will be greatly facilitated in recovery of amount by way of proceedings under section 138 of the Act. Further, this will allow them to continue to extend financing to the productive sectors of the economy leading to overall development of trade and commerce.

Concluding Remarks:

The Amendment Act is, undoubtedly, a positive step towards ensuring the credibility of cheques. However, the Amendment Act is not without its fare share of criticism. Some people are of the view that the Act is still not stringent enough to effectively deter the defaulting drawers of the cheques. As such, harsher penalties should be imposed on the repeat offenders in the form of increased fine or prohibition on issuing cheques for a specified period. Also, express provision should be inserted for expeditious trial of the cheque bouncing cases within the prescribed time period. Nonetheless, the Amendment Act will go a long way in ensuring relief to the payee of the dishonoured cheques.

[1] R. Vijayan v. Baby, (2012) 1 SCC 260 (Read judgement at: https://indiankanoon.org/doc/635335/).