The Company Law Committee published its third report (“Report“)1 on April 13, 2022 which makes recommendations to the Government on changes to the Companies Act, 2013 (“Companies Act“), the Limited Liability Partnership Act, 2008 (“LLP Act“) and the rules framed thereunder. The amendments and new additions proposed in the Report aim to bring Indian company law in line with global practices and improve the ease of doing business in India. The key highlights of the Report and implications of the same are discussed below.
INTRODUCTION OF NEW CONCEPTS
1. Recognising issuance and holding of fractional shares, Restricted Stock Units (“RSUs”) and Stock Appreciation Rights (“SARs”)
(i) A fractional share refers to a portion of a share which is less than one share unit. Holding of fractional shares is not permitted under the Companies Act. The Committee recommends that the Companies Act should be amended to insert provisions that enable issuance, holding and transfer of fractional shares in dematerialised form for a class or classes of companies, in such manner as may be prescribed. For listed companies, such prescriptions may be made in consultation with the Securities Exchange Board of India. This recommendation only pertains to cases that would involve a fresh issue of fractional shares by the company and not to those cases where fractional shares get created for the time being on account of any corporate action.
(ii) Allowing the holding of fractional shares will attract the investment of those retail investors who do not have the budget or purchasing power to buy a whole share. This change, if approved, will lead to greater investment in the stock market and enable companies to raise capital from an untapped market of retail investors.
RSUs and SARs
(i) The Committee recommends the recognition of additional employee compensation schemes linked to the value of the share capital of a company. Such schemes include RSUs and SARs that allow employees to subscribe to the company’s equity capital.
(ii) While RSUs do not give the employee an option to purchase or subscribe to the share directly, it is a scheme under which the employee will be entitled to the shares at the end of the vesting period, so long as the restrictions concerning the duration of employment and performance parameters are met. Whereas, SARs are a form of incentive or deferred compensation tied to the employing company’s stock performance. They give employees the right to the monetary equivalent of the appreciation in the value of a specified number of shares over a specified period.
(iii) Similar to the benefits of providing employee stock options, the introduction of schemes of RSUs and SARs will be advantageous to both the company and its employees and will boost employee morale and productivity.
2. Recognizing Special Purpose Acquisition Companies (“SPACs”)
(i) A SPAC is a type of company that does not have an operating business and has been formed with the specific objective of acquiring a target company. This concept allows a shell company to issue an Initial Public Offering (“IPO”) without any commercial activity. After listing, the SPAC merges with or acquires a company, i.e., the target, thereby allowing the target company to benefit from such listing without going through the formalities and rigours of an IPO. To read more about SPACs in the Indian context and its benefits, please see our article available here.
(ii) The Committee recommends introducing an enabling provision to recognise SPACs under the Companies Act and allowing the listing of a SPAC incorporated in India on domestic and global exchanges.
3. Incorporation of Producer LLPs under the LLP Act
(i) The Committee recommends the insertion of a new chapter in the LLP Act which will enable the incorporation of Producer LLPs under the LLP Act. The Committee also recommends that a model agreement be inserted under the LLP Act for ready use by Producer LLPs.
(ii) The Committee noted that producer organisations play a pivotal role in reducing transaction costs and provide a forum for members to share mutually beneficial information, coordinate activities and make collective decisions. Further, an institutional support mechanism makes small producer agriculture more viable and can increase producers’ income. Allowing the incorporation of Producer LLPs could provide a fillip to the Indian agricultural sector, making it easier for producer organisations to procure institutional finance.
EASING THE BURDEN OF COMPLIANCE
1. Simplifying raising of capital in distressed companies
(i) Section 53(1) of the Companies Act prohibits issue of shares at a discount. The Committee recommends that distressed companies should be allowed to issue shares at a discount to the Central Government or State Government or to such class or classes of persons as may be prescribed, notwithstanding the prohibition under this Section.
(ii) This relaxation will provide respite to companies that have suffered as a result of the pandemic and are facing difficulties in raising fresh capital for their revival.
2. Replacing affidavits with self-declaration
(i) Numerous Sections under the Companies Act require furnishing of affidavits. The Committee recommends that this requirement should be replaced with filing a declaration, except in those provisions that involve filing an affidavit in a judicial or quasi-judicial proceeding.
(ii) The Committee noted that self-declaration serves the same purpose as an affidavit without the formality of printing the declaration on a stamp paper and attestation on oath by a magistrate or public notary. Further, the replacement of affidavits with declarations does not detract from the severity of consequences under the Companies Act, given that furnishing a false declaration attracts punishment under Section 448.
3. Allowing companies to re-align their financial year
(i) Under the first proviso to Section 2(41) of the Companies Act, a company which is the holding company or subsidiary, or associate of a company incorporated outside India, and is required to follow a different financial year for consolidation of its accounts outside India, may be allowed to follow such different financial year upon making an application to the Central Government. The Committee noted that if such a company ceases to be a holding, subsidiary or associate company of the foreign entity, the Companies Act currently contains no provision allowing such company to revert to the financial year required to be followed under the Companies Act.
(ii) Therefore, the Committee recommends that such companies should be allowed to file a fresh application with the Central Government to allow them to revert back to the financial year followed under the Companies Act.
REAPING THE BENEFITS OF DIGITIZATION
1. Facilitating communication in electronic form
(i) The Committee recommends amendment to Section 20 of the Companies Act to introduce a specific provision enabling the Central Government to prescribe rules, with suitable safeguards to protect the interest of investors, for such class or classes of companies for whom it shall be adequate to serve documents to all their members in electronic mode only for compliance with the provisions of the Companies Act. However, where a member has requested the company to serve physical documents also, the company shall, as an investor friendly measure, also serve such documents in physical mode.
2. Holding virtual meetings
(i) Owing to the benefits of relaxing the requirement for physical meetings which were realised during the pandemic, the Committee recommends amending the Companies Act to enable the Central Government to prescribe the manner in which companies can hold annual general meetings and extraordinary general meetings physically, virtually and in hybrid mode.
3. Maintaining statutory registers through an electronic platform
(i) Considering globally accepted practices and benefits of maintaining registers electronically, the Committee recommends that certain class or classes of companies, should be required to compulsorily maintain their registers on an electronic platform in such form and manner as may be prescribed by the Central Government. For this purpose, the Committee recommends that the Central Government may set up an electronic platform for such registers to be maintained, stored and periodically updated.
(ii) This measure will reduce the compliance costs incurred by companies in the maintenance of statutory registers and facilitate greater transparency.
STRENGTHENING THE AUDIT FRAMEWORK
1. Resignation by auditors
(i) The Committee recommends that a resigning auditor should be under an explicit obligation to make detailed disclosures before resignation and should specifically mention whether such resignation is due to non-cooperation from the client company, fraud or severe noncompliance, or diversion of funds. Moreover, if such information comes to light after the resignation of an auditor but has not been disclosed in the resignation statement, suitable action may be taken against the resigning auditor. Additionally, the auditor should be mandated to provide assurance about the company’s accounts and independence of his/her decision to resign.
2. Standardising qualifications by auditors
(i) The Committee recommends that there should be a format for auditors to provide the impact of every qualification or adverse remark on the company’s financial statements for circulation to the board of directors before the same is passed on to the shareholders.
CLARIFICATORY CHANGES IN THE COMPANIES ACT
The Committee also recommends certain clarificatory and drafting changes to the Companies Act inter alia inclusion of ‘free reserves’ in calculating the buy-back of equity shares, removing ambiguity in computation of the total tenure of an independent director and making it obligatory for companies to notify the Registrar of Companies (“ROC“) of resignations tendered by certain key managerial persons whose appointment intimation was filed with the ROC.