SHARE CAPITAL

Question 1

Meaning and nature of a share

Answer 1

The capital of a company is divided into a number of indivisible units of a fixed amount. These units are known as ‘shares’. According to section 2(84) of the Companies Act, 2013, a share is a share in the share capital of a company and includes stock. The Supreme Court of India in CIT v. Standard Vacuum Oil Co. [1966] Comp. LJ 187 observed, “By a share in a company is meant not any sum of money but an interest measured by a sum of money and made up of diverse rights conferred on its holders by the articles of the Company which constitute a contract between him and the Company”.

In another case, Supreme Court defined a share as “a right to participate in the profits made by a company, while it is a going concern and declares a dividend, and in the assets of the company when it is wound up [Bucha F. Guzdar v. Commissioner of Income-tax, Bombay LR 617 (SC)].

Question 2

Nature of a share

Answer 2

A share is a chose-in-action. A chose-in-action implies the existence of some person entitled to the rights, which are rights in action as distinct from rights in possession, and until the share is issued no such person exists.
In Vishwanathan v. East India Distilleries [1957] 27 Comp. Cas. 175, it was observed :
“A share is undoubtedly movable property but it is not movable property in the same way in which a bale of cloth or a bag of wheat is movable property. Such commodities are not brought into existence by legislation, but a share in a company belongs to a totally different category or property. It is incorporeal in nature, and it consists merely of a bundle of rights and obligations.”
A share is not a negotiable instrument. A share is an expression of a proprietary relationship between a shareholder and the company [CIT v. Associated Industrial Development Co. [1969] 2 Comp. LJ 19].

Question 3

Share v. Stock

Answer 3

1. A share has a nominal value
2. A share has a distinctive number which distinguishes it from other shares.
3. Originally Shares can only be issued.
4. A share may either be fully paid up or partly paid up.
5. A share cannot be transferred in fractions. It is transferred as a whole.
6. All the shares of a class are of equal denomination.
7. A stock has no nominal value.
8. A stock bears no such number.
9. A company cannot make an original issue of stock. Stock can be issued by an existing company by converting its fully paid-up shares.
10. A stock can never be partly paid up, it is always fully paid up.
11. A stock may be transferred in any fraction.
12. Stock may be of different denominations.

Question 4

Kinds of shares

Answer 4

As per the Companies Act, 2013, only two kinds of shares can be issued by a company. Section 43 of the Act provides that the share capital of a company limited by shares shall be of two kinds only*, namely :
(a) equity share capital—
(i) with voting rights, or
(ii) with differential rights as to dividend, voting or otherwise in accordance
with such rules and subject to such conditions as may be prescribed ; (b) preference share capital.
Besides, a company may also issue Global Depository Receipts (GDRs) under section 41.

Question 5

Preference Shares or Preference Share Capital

Answer 5

Preference share capital means that part of the share capital of the company fulfils both the following requirements:
(1) During the life of the company it must be assured of a preferential dividend. The preferential dividend may consist of a fixed amount (say, one lakh rupees) payable to preference shareholders before anything else is paid to the equity shareholders. Alternatively, the amount payable as a preferential dividend may be calculated at a fixed rate, e.g., 10% of the nominal value of each share.
(2) On the winding-up of the company it must carry a preferential right to be paid, i.e., amount paid up on preference shares must be paid back before anything is paid to the equity shareholders.

Question 6

Preference Shares or Preference Share Capital

Answer 6

Participating or non-participating - Participating preference shares are those shares which are entitled to a fixed preferential dividend and, in addition, carry a right to participate in the surplus profits along with equity shareholders after a dividend at a certain rate has been paid to equity shareholders. For example, after a 20% dividend has been paid to equity shareholders, the preference shareholders may share the surplus profits equally with equity shareholders. Again, in the event of winding up, if after paying back both the preference and equity shareholders, there is still some surplus left, then the participating preference shareholders get an additional share in the surplus assets of the company. Unless expressly provided, preference shareholders get only the fixed preferential dividend and return of capital in the event of winding up out of realised values of assets after meeting all external liabilities and nothing more. The right to participate may be given either in the memorandum or articles or by virtue of their terms of issue.

b. Cumulative and non-cumulative shares - With regard to the payment of dividends, preference shares may be cumulative or non-cumulative. A cumulative preference share confers a right on its holder to claim dividends fixed at a sum or a percentage for the past and the current years out of future profits. The fixed dividend keeps on accumulating until it is fully paid. The non-cumulative preference share gives the right to its holder a fixed amount or a fixed percentage of dividend out of the profits of each year. If no profits are available in any year or no dividend is declared, the preference shareholders get nothing, nor can they claim unpaid dividends in any subsequent year.
Preference shares are cumulative unless expressly stated to be non-cumu- lative.7 Dividends on preference shares, like equity shares, can be paid only out of profits and on the declaration of dividends for preference shares.

c. Redeemable and Irredeemable Preference shares - As per Section 55 of the Companies Act, 2013:
1. No company limited by shares can issue any preference shares which are irredeemable.
2. A company limited by shares may, if so authorized by its articles, issue preference shares which are liable to be redeemed within a period not exceeding twenty years from the date of their issue.

However, a company may issue preference shares for a period exceeding twenty years for infrastructure projects, subject to the redemption of such percentage of shares as may be prescribed on an annual basis at the option of such preferential shareholders. Rule 10 of the Companies (Share Capital and Debentures) Rules, 2014, in this regard, provides that a company engaged in the setting up of infrastructure projects may issue preference shares for a period exceeding twenty years but not exceeding thirty years, subject to the redemption of a minimum 10% of such preference shares per year from the twenty-first year onwards or earlier, on a proportionate basis, at the option of the preference shareholders.

Question 7

Conditions for issue of Redeemable Preference Shares

Answer 7

(a) No such shares shall be redeemed except out of the profits of the company which would otherwise be available for dividend or out of the proceeds of a fresh issue of shares made for the purposes of such redemption;
(b) no such shares shall be redeemed unless they are fully paid;
(c) where such shares are proposed to be redeemed out of the profits of the company, there shall, out of such profits, be transferred, a sum equal to the nominal amount of the shares to be redeemed, to a reserve, to be called the Capital Redemption Reserve Account;
(d) the capital redemption reserve account may be applied by the company, in paying up unissued shares of the company to be issued to members of the company as fully paid bonus shares.
(e) the premium, if any, payable on redemption shall be provided for out of the profits of the company, before the shares are redeemed.
(f) the issue of further redeemable preference shares or the redemption of preference shares shall not be deemed to be an increase or, as the case may be, a reduction, in the share capital of the company.

Question 8

Rule 9 of the Companies (Share Capital and Debentures) Rules, 2014.

Answer 8

1. A company having a share capital may issue preference shares only if so authorized by its articles.
2. A special resolution in the general meeting of the company must have been passed authorizing the issue.
3. The company, at the time of such issue of preference shares, must not have any subsisting default in the redemption of preference shares issued earlier or in the payment of dividends due on any preference shares.
4. The Register of Members maintained under section 88 must contain the particulars in respect of such preference shareholder(s).
5. A company intending to list its preference shares on a recognized stock exchange shall issue such shares in accordance with the Securities and Exchange Board of India (Issue and Listing of Non-convertible Redeemable Preference Shares) Regulations, 2013.
6. A company may redeem its preference shares only on the terms on which they were issued or as varied after due approval of preference shareholders under section 48 of the Act.

The preference shares may be redeemed:
(a) at a fixed time or on the happening of a particular event;
(b) any time at the company’s option; or
(c) any time at the shareholder’s option.
3. Where a company is not in a position to redeem any preference shares or to pay dividends, if any, on such shares in accordance with the terms of the issue (such shares hereinafter referred to as unredeemed preference shares), it may, with the consent of the holders of three-fourths in value of such preference shares and with the approval of the Tribunal, on a petition made by it in this behalf, issue further redeemable preference shares equal to the amount due, including the dividend thereon, in respect of the unredeemed preference shares. On the issue of such further redeemable preference shares, the unredeemed preference shares shall be deemed to have been redeemed.

However, the Tribunal shall, while giving the approval, order the redemption forthwith of preference shares held by such persons who have not consented to the issue of further redeemable preference shares.
It may be further noted that notice of redemption of preference shares must be sent to the Registrar under Section 64 of the Act.

Question 9

Equity shares [Sec. 43]

Answer 9

Equity shares are those shares which are not preference shares. In other words, shares which do not enjoy any preferential right in the matter of payment of dividends or repayment of capital, are known as equity shares. After satisfying the rights of preference shares, the equity shares shall be entitled to share in the remaining amount of distributable profits of the company. The dividend on equity shares is not fixed and may vary from year to year depending upon the number of profits available. The rate of dividend is recommended by the Board of directors of the company and declared by shareholders in the annual general meeting.
Every member of a company limited by shares and holding equity share capital therein, shall have:
(a) a right to vote on every resolution placed before the company; and
(b) his voting rights, on a poll, shall be in proportion to his share in the paid-up
the equity share capital of the company.
As compared to this, the holders of preference shares can vote only on such resolutions which directly affect the rights attached to the preference shares and, any resolution for the winding up of the company or for the repayment or reduction of its equity or preference share capital. However, if the preference dividend is not paid for two years or more, the preference shareholders shall also get voting right on every resolution placed before the company (Section 47).
The voting rights of a preference shareholder, on a poll, shall be in proportion to his share in the paid-up preference share capital of the company.
Where members of unincorporated association become members of the company - Where the company was incorporated to take over as going concern. unincorporated association and enrol its members of all categories as members of the company, as long as names of members of the unincorporated association were entered in the register of members of the company, they would have the right to vote under section 87 [Now section 47] and restrictions, if any, on their rights as members of the unincorporated association would not haunt their rights as members of the company - C.P. Singhania v. Garware Club House [2003] 46 SCL 659 (Bom.).

Question 10

Raising of capital/Issue of shares

Answer 10

Companies limited by shares have to issue shares to raise the necessary capital for their operations. Issue of shares may be made in 3 ways :
(i) By private placement of shares;
(ii) By allotting entire shares to an ‘Issue-House’, which in turn, offers the shares
for sale to the public; and
(iii) By inviting the public to subscribe for shares in the company through a prospectus.

Question 11

Private placement of shares [Section 42 read along with the Companies (Prospectus and Allotment of Securities) Rules, 2014 as amended vide Second (Amendment) Rules, 2018]

Answer 11

The explanation I to section 42 defines “private placement” to mean any offer or invitation to subscribe or issue securities to a select group of persons by a company (other than by way of public offer) through private placement offer-cum- application.
If a company, listed or unlisted, makes an offer to allot or invites subscription, or allots, or enters into an agreement to allot, securities to more than the prescribed number of persons, whether the payment for the securities has been received or not or whether the company intends to list its securities or not on any recognised stock exchange in or outside India, the same shall be deemed to be an offer to the public and shall be governed accordingly.
A private placement may be made subject to only the following conditions:
(1) A company may, subject to the provisions contained in section 42, make a private placement of securities.
(1A) A company shall not make an offer or invitation to subscribe to securities through private placement unless the proposal has been previously approved by the shareholders of the company, by a special resolution for each of the offers or invitations.
(2) A private placement shall be made only to a select group of persons who have been identified by the Board (herein referred to as “identified persons”), whose number shall not exceed fifty or such higher number as may be prescribed as per the Rules, [excluding the qualified institutional buyers and employees of the company being offered securities under a scheme of employees stock option in terms of provisions of clause (b) of sub-section (1) of section 62], in a financial year subject to such conditions as may be prescribed.
(3) A company making private placement shall issue private placement offer and application in such form and manner as may be prescribed to identified persons, whose names and addresses are recorded by the company in such manner as may be prescribed:
However, the private placement offer and application shall not carry any right of renunciation.
In Mrs Proddaturi Malathi v. SRP Logistics (P.) Ltd. [2018] 96 taxmann.com 565 (NCL-AT), respondent directors increased the share capital of the company and further allotted shares of the company to R2-director and to an outsider at par by preferential allotment/private placement without following the necessary procedure, said the increase in share capital and subsequent allotment of shares was held to be invalid and thus same was to be set aside.
(4) Every identified person willing to subscribe to the private placement issue shall apply in the private placement and application issued to such person along with subscription money paid either by cheque or demand draft or other banking channel and not by cash:
Provided that a company shall not utilise monies raised through private placement unless allotment is made and the return of allotment is filed with the Registrar in accordance with subsection (8).
(5) No fresh offer or invitation under this section shall be made unless the allotments with respect to any offer or invitation made earlier have been completed or that offer or invitation has been withdrawn or abandoned by the company:
Provided that, subject to the maximum number of identified persons under sub-section (2), a company may, at any time, make more than one issue of securities to such class of identified persons as may be prescribed.
(6) A company making an offer or invitation under this section shall allot its securities within sixty days from the date of receipt of the application money for such securities and if the company is not able to allot the securities within that period, it shall repay the application money to the subscribers within fifteen days from the expiry of sixty days and if the company fails to repay the application money within the aforesaid period, it shall be liable to repay that money with interest at the rate of twelve per cent per annum from the expiry of the sixtieth day:
Provided that monies received on application under this section shall be kept in a separate bank account in a scheduled bank and shall not be utilised for any purpose other than—
(a) for adjustment against allotment of securities; or
(b) for the repayment of monies where the company is unable to allot securities.
(7) No company issuing securities under this section shall release any public advertisements or utilise any media, marketing or distribution channels or agents to inform the public at large about such an issue.
(8) A company making any allotment of securities under this section, shall file with the Registrar a return of allotment within fifteen days from the date of the allotment in such manner as may be prescribed, including a complete list of all allottees, with their full names, addresses, number of securities allotted and such other relevant information as may be prescribed.
(9) If a company defaults in filing the return of allotment within the period prescribed under sub-section (8), the company, its promoters and directors shall be liable to a penalty for each default of one thousand rupees for each day during which such default continues but not exceeding twenty-five lakh rupees.
(10) Subject to subsection (11), if a company makes an offer or accepts monies in contravention of this section, the company, its promoters and directors shall be liable for a penalty which may extend to the amount raised through the private placement or two crore rupees, whichever is lower, and the company shall also refund all monies with interest as specified in sub-section (6) to subscribers within a period of thirty days of the order imposing the penalty.
(11) Notwithstanding anything contained in sub-section (9) and sub-section (10), any private placement issue not made in compliance with the provisions of sub-section (2) shall be deemed to be a public offer and all the provisions of this Act and the Securities Contracts (Regulation) Act, 1956 and the Securities and Exchange Board of India Act, 1992 shall be applicable.

Question 12

Public issue of shares

Answer 12

Public Issue of shares means the selling or marketing of shares for subscription by the public by issue of prospectus. For raising capital from the public by the issue of shares or debentures, a public company has to comply with the provisions of the Companies Act, the Securities Contracts (Regulation) Act, 1956 including the Rules made thereunder and the regulations and instructions issued by the concerned Government authorities, the Stock Exchange and the Securities and Exchange Board of India (SEBI), etc. Management of a public issue involves coordination of activities and cooperation of a number of agencies such as managers to the issue, underwriters, brokers, registrars to the issue, solicitors/legal advisors, printers, publicity and advertising agents, financial institutions, auditors and other Govern- ment/statutory agencies such as Registrar of Companies, Reserve Bank of India, Stock Exchange, SEBI etc.

Question 13

Issue of shares at a discount [Section 53]

Answer 13

If the buyer of shares is required to pay less than face value of the share, for example, Rs. 9 on a share of Rs. 10, then the share is said to be issued or sold at a discount. The issue of shares at a discount is regulated by law and Section 53 provides that except as provided in section 54, a company shall not issue shares at a discount. Section 54 allows only ‘sweat equity shares’ to be issued at a discount and that too subject to compliance of the specified conditions.

Any share issued by a company at a discount shall be void.
However, as per the Companies (Amendment) Act, 2017, a company may issue shares at a discount to its creditors when its debt is converted into shares in pursuance of any statutory resolution plan or debt restructuring scheme in accordance with any guidelines or directions or regulations specified by the Reserve Bank of India under the Reserve Bank of India Act, 1934 or the Banking (Regulation) Act, 1949.
Where a company contravenes the provisions of section 53, sub-section (3), as amended by the Companies (Amendment) Act, 2019, lays down that the company and every officer-in-default shall pay a penalty which may extend to an amount raised through issue of shares at discount or Rs. 5 lakhs, whichever is less and the company shall also be liable to refund the amount with interest at the rate of 12% p.a. from the date of issue of shares to the respective persons to whom the shares were issued.

Question 14

Issue of sweat equity shares [Section 54]

Answer 14

“Sweat equity shares” means such equity shares as are issued by a company to its directors or employees at a discount or for consideration, other than cash, for providing their know-how or making available rights in the nature of intellectual property rights or value additions, by whatever name called [Section 2(88)].

Sweat equity shares are thus issued to employees or directors, as aforesaid. These are issued at a discount (to market price) or for providing know-how or making available rights in the nature of intellectual property rights or value additions.

A company can issue sweat equity shares only of a class of shares already issued.

Besides, for the issue of sweat equity shares, Section 54, inter alia, requires ensuring that:
(a) The issue is authorized by a special resolution passed by the company. As per Rule 8 of the Companies (Share Capital and Debentures) Rules, 2014, the special resolution authorizing the issue of sweat equity shares shall be valid for making the allotment within a period of not more than twelve months from the date of passing of the special resolution.

(c) In the case of a listed company, the sweat equity shares are issued in accordance with the SEBI regulations made on this behalf and in the case of an unlisted company, the sweat equity shares are issued in accordance with such rules as may be prescribed.

Rule 8 provides that a company shall not issue sweat equity shares for more than 15% of the existing paid-up equity share capital in a year or shares of the issue value of rupees five crores, whichever is higher. In no case, the issuance of sweat equity shares in the company can exceed 25% of the paid-up equity capital of the company at any time.

However, a startup company, as defined in notification number GSR 180(E) dated 17th February 2016 issued by the Department of Industrial Policy and Promotion, Ministry of Commerce and Industry, Government of India, may issue sweat equity shares not exceeding 50% of its paid-up capital up to five years from the date of its incorporation or registration.

(5) Sweat equity shares issued to directors or employees shall be locked in/non-transferable for a period of three years from the date of allotment. The fact that the share certificates are under lock-in and the period of expiry of lock-in shall be stamped in bold or mentioned in any other prominent manner on the share certificate.

(6) The sweat equity shares to be issued shall be valued at a price determined by a registered valuer as the fair price giving justification for such valuation.

(7) The valuation of intellectual property rights or of know-how or value additions for which sweat equity shares are to be issued, shall be carried out by a registered valuer, who shall provide a proper report addressed to the Board of directors with justification for such valuation.

(8) The rights, limitations, and restrictions applicable to the sweat equity shares shall be the same as those applicable to equity shares.

Question 15

SEBI Regulations with respect to Sweat Equity(1)

Answer 15

1. Issue of Sweat Equity Shares to promoters
   (i) In the case of the issue of sweat equity shares to promoters, the same must also be approved by a simple majority of the shareholders in a general meeting. Voting for the purpose should be through postal ballot and the allottee promoters should not participate in voting for such a resolution.
   (ii) Each transaction of issue of sweat equity shall be voted by a separate resolution.
   (iii) Resolution for the issue of sweat equity shares shall be valid for not more than 12 months from the date of its passing.
   (iv) The explanatory statement shall contain details of disclosures as specified in the schedule.

Question 16

SEBI Regulations with respect to Sweat Equity(2)

Answer 16

Pricing of Sweat Equity Shares - The pricing of sweat equity shares has been brought at par with pricing in respect of allotment on preferential basis, viz., the price shall not be less than the higher of the following:
(a) the average of the weekly high and low of the closing prices of the related equity shares during last 6 months preceding the relevant date; or
(b) the average of the weekly high and low of the closing prices of the related equity shares during the two weeks preceding the relevant date.
‘Relevant date’ for this purpose means the date which is 30 days prior to the date on which the meeting of the general body of the shareholders is convened in terms of section 79(1)(a).
If the shares are listed on more than one stock exchange, but quoted only on one stock exchange on the given date, then the price on that stock exchange shall be considered. But, if the share price is quoted on more than one stock exchange, then the stock exchange where there is highest trading volume during that date shall be considered.
If shares are not quoted on the given date, then the share price on the next trading day shall be considered.

Question 17

SEBI Regulations with respect to Sweat Equity(3)

Answer 17

Valuation of intellectual property - The valuation of the intellectual property rights or of the know-how provided or other value addition shall be carried out by a merchant banker. The merchant banker may consult such experts and valuers, as he may deem fit having regard to the nature of the industry and the nature of the property or other value addition.
The merchant banker shall obtain a certificate from an independent chartered accountant that the valuation of the intellectual property or other value addition is in accordance with the relevant accounting standards.

Question 18

SEBI Regulations with respect to Sweat Equity(4)

Answer 18

Accounting Treatment - Where the sweat equity shares are issued for a non- cash consideration, such non-cash consideration shall be treated in the following manner in the books of account of the company:
(a) Where the non-cash consideration takes the form of a depreciable or amortizable asset, it shall be carried to the balance-sheet of the company as per the relevant accounting standards; or
(b) Where clause (a) is not applicable, it shall be expensed as per the relevant accounting standards.

Question 19

SEBI Regulations with respect to Sweat Equity(5)

Answer 19

Placing of Auditor’s Certificate before AGM - In the AGM subsequent to the issue of sweat equity shares, the Board of Directors shall place before the shareholders, a certificate from the auditors of the company that the issue of sweat equity shares has been made in accordance with the Regulations and in accordance with the resolution passed by the company authorising the issue of such sweat equity shares.

Question 20

SEBI Regulations with respect to Sweat Equity(6)

Answer 20

Ceiling on Managerial Remuneration - The amount of sweat equity shares issued shall be treated as part of managerial remuneration for the purposes of sections 198, 309, 310, 311 and 387 if the following conditions are satisfied:

(i) the sweat equity shares are issued to any director or manager; and
(ii) they are issued for non-cash consideration, which does not take the form of an asset which can be carried to the balance sheet of the company in accordance with the relevant accounting standards.

Question 21

SEBI Regulations with respect to Sweat Equity(7)

Answer 21

Lock-in of sweat equity shares
(i) The sweat equity shares shall be looked into for a period of 3 years from the date of allotment.
(ii) SEBI (Disclosure and Investor Protection) Guidelines, 2000 on the public issue in terms of lock-in and computation of promoters’ contribution shall apply if a company makes a public issue after it has issued sweat equity shares.

Question 22

SEBI Regulations with respect to Sweat Equity(8)

Answer 22

Listing - The sweat equity shares issued by a listed company shall be eligible for listing only if such issue is in accordance with these regulations.

Question 23

SEBI Regulations with respect to Sweat Equity(9)

Answer 23

Applicability of Takeover Code - Any acquisition of sweat equity shares shall be subject to the provisions of SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 1997.

Question 24

SEBI Regulations with respect to Sweat Equity(10)

Answer 24

Obligations of the company - The company shall ensure that —
(a) Explanatory statement to the notice of the general meeting shall contain
specified details.
(b) Auditors’ certificate, as stated above, shall be placed in the general meeting.
(c) Within 7 days of the issue of sweat equity shares, a statement is sent to the recognized stock exchange disclosing:
(i) number of sweat equity shares;
(ii) price at which issued;
(iii) total amount invested;
(iv) details of persons to whom issued; and
(v) consequent changes in the capital structure and the shareholding pattern after and before the issue of sweat equity shares.

Question 25

SEBI Regulations with respect to Sweat Equity(11)

Answer 25

Action against Intermediaries - SEBI may, on failure of the merchant banker to comply with the obligations under these regulations or failing to observe due diligence in respect of valuation of intellectual property or value addition, initiate action against the merchant banker as per SEBI (Merchant Bankers) Regulations, 1992.

Question 26

SEBI Regulations with respect to Sweat Equity(12)

Answer 26

Powers of SEBI to order inspection or investigations - SEBI, may, suo motu or upon information received by it, cause an inspection to be made of the books of account or other books to be made in respect of conduct and affairs of any person associated with the process of sweat equity shares, by appointing of its officer.

The inspection or investigation can be made for any of the following purposes:
(a) To ascertain whether there are circumstances which would render any person guilty of having contravened any of these regulations or directions issued thereunder.

(b) To investigate into any complaint of any contravention of the regulations,
received from any investor, or any other person.
Every person in respect of whom inspection or investigation has been ordered shall produce before the Inspector/Investigating Officer such books, accounts and other documents and information in his custody or control as the said officer may require.
The Inspector/Investigating Officer shall have full powers:
(a) of summoning and enforcing the attendance of persons;
(b) to examine orally and to record on oath the statement of the persons concerned, any director, partner, member, or employee of such persons.
On the report of the Inspector/Investigating Officer, SEBI may initiate such action as it may deem fit in the interests of investors and the securities market. The directions, besides initiating criminal prosecution, may include:
(a) directing the person not to further deal in securities in a particular manner;
(b) directing the person concerned to sell or divest the sweat equity shares
acquired in violation of these regulations/any other law or regulations;
(c) prohibiting the persons concerned from accessing the securities market;
(d) directing the disgorgement of any ill-gotten gains or profit or avoidance of loss;
(e) restraining the company from making a further offer for sweat equity shares.

Question 27

Buy-back/Purchase of its own shares by a company

Answer 27

Section 67(1) of the Companies Act, 2013 provides that a company limited by shares or a company limited by guarantee having a share capital cannot buy its own shares. The restriction is applicable to all companies having share capital, whether public or private*.
However, Section 68 allows a company to purchase its own shares or other securities subject to certain conditions. The provisions of Section 68 are as follows:

Question 28

Sources to Buy-Back

Answer 28

A company can buy its own shares and other specified securities out of :
(i) its free reserves; or
(ii) the securities premium account; or
(iii) the proceeds of any shares or other specified securities. However, no buy- back shall be made out of the proceeds of an earlier issue of the same kind of shares or same kind of other specified securities.
In case shares are bought back out of free reserves then Section 69 stipulates that a sum equal to the nominal value of shares bought back shall be transferred to a reserve account to be called the ‘Capital Redemption Reserve Account’ and details of such transfer shall be disclosed in the balance-sheet. This account may be applied by the company for issue of fully paid bonus shares.

Question 29

Conditions for buy-back

Answer 29

Section 68(2) provides that no company shall purchase its own shares or other specified securities unless :
(a) the buy-back is authorised by its articles;
(b) a special resolution has been passed at a general meeting of the company authorising the buy-back. However, buy-back up to ten per cent of the total paid-up equity capital and free reserves of the company may be affected by passing a resolution at a meeting of the Board of directors of the company;
SEBI regulations, as amended up to 1-8-2014, provide that the resolution of the Board of directors must be filed with SEBI and the stock exchanges where the shares or other specified securities of the company are listed, within two working days of the date of the passing of the resolution. ‘Working day’ means any working day of SEBI.
(c) the buy-back is twenty-five per cent or less of the aggregate of paid-up capital and free reserves of the company.
In case of buy-back of equity shares in any financial year, buy-back cannot
exceed 25% of its total paid-up equity capital in that financial year.
However, there cannot be more than one such buy-back within a period of one year reckoned from the date of the closure of the preceding offer of buy- back.
(d) the ratio of the aggregate of secured and unsecured debts owed by the company after buy-back is not more than twice the paid-up capital and its free reserves. However, the Central Government may, by order, notify a higher ratio of the debt to capital and free reserves for a class or classes of companies;
(e) all the shares or other specified securities for buy-back are fully paid-up;
(f) the buy-back of the shares or other specified securities listed on any recognised stock exchange is in accordance with the regulations made by the Securities and Exchange Board in this behalf; and
(g) the buy-back in respect of shares or other specified securities other than those specified in clause (f) is in accordance with such rules as may be prescribed.

Question 30

68. B

Answer 30

The notice of the meeting at which special resolution is proposed to be passed shall be accompanied by an explanatory statement containing specified particulars.

Question 31

68. C

Answer 31

Every buy-back shall be completed within a period of one year from the date of passing the Special resolution /Board’s resolution under sub-section (2) of Section 68.

Question 32

68.D

Answer 32

Buy-back shall be permissible :
(a) from the existing shareholders or security holders on a proportionate basis;
(b) from the open market;
(c) by purchasing the securities issued to employees of the company pursuant to a scheme of stock option or sweat equity.

Question 33

68.E

Answer 33

Where a company proposes to buy-back its own shares or other specified securities under this section in pursuance of a special resolution/Directors’ resolu- tion, it shall, before making such buy-back, file with the Registrar and the Securities and Exchange Board, a declaration of solvency signed by at least two directors of the company, one of whom shall be the managing director, if any, in such form as may be prescribed and verified by an affidavit to the effect that the Board of Directors of the company has made a full inquiry into the affairs of the company as a result of which they have formed an opinion that it is capable of meeting its liabilities and will not be rendered insolvent within a period of one year from the date of declaration adopted by the Board.
No declaration of solvency shall be required to be filed with the Securities and Exchange Board by a company whose shares are not listed on any recognised stock exchange. It may be noted that exemption in this regard shall be available for only those companies whose shares are not listed irrespective of any of its other security being listed.

Question 34

68.F

Answer 34

Where a company buys-back its own securities, it shall extinguish and physically destroy the securities so bought-back within seven days of the last date of completion of buy-back.

Question 35

68. G

Answer 35

Where a company completes a buy-back of its shares and other specified securities under this Section, it shall not make further issue of the same kind of shares including by way of rights or other specified securities within a period of six months except by way of bonus issue or in the discharge of subsisting obligations such as conversion of warrants, stock option scheme, sweat equity or conversion of preference shares or debentures into equity shares.

Question 36

68.H

Answer 36

Where a company buys-back its securities under this Section, it shall maintain a register of the securities so bought, the consideration paid for the securities bought-back, the date of cancellation of securities, the date of extinguishing and physically destroying of securities and such other particulars as may be prescribed.

Question 37

68.I

Answer 37

Where a company buys-back its securities under this Section, it shall maintain a register of the securities so bought, the consideration paid for the securities bought-back, the date of cancellation of securities, the date of extinguishing and physically destroying of securities and such other particulars as may be prescribed.

Question 38

Benefits/Objectives underlying buy-back of shares

Answer 38

Buy-back, as such, is a recent corporate phenomenon in our country. The provisions of sections 68, 69 and 70 allow buy-back. The objectives underlying the introduction of buy-back provisions may be any or a combination of following motives—
(i) return of surplus cash to the shareholders, when paid up share capital appears to be more than necessary,
(ii) increase of current share price of the company,
(iii) support to share price when company activities are on a reduced scale,
(iv) maintaining a revised capital structure,
(v) discourage unwelcome takeover bids,
(vi) increase in dividend rate,
(vii) increase in earning per share,
(viii) more efficient use of the corporate resources, and
(ix) increase in promoters’/controlling shareholders’ stake in the company by resorting to open market purchase or selective buy-back.

Question 39

SEBI Regulations : SEBI (Buy-back of Securities). 1

Answer 39

1. Buy-back shall be permissible:
   (a) from the existing shareholders or security holders on a proportionate basis:
   Provided that 15% of the number of securities which the company proposes to buy back or number of securities entitled as per their shareholding, whichever is higher, shall be reserved for small shareholders. A ‘small shareholder’ means a shareholder the market value of whose shares is not more than two lakh rupees;
   (b) from the open market through—
   (i) book-building process,
   (ii) stock exchange;
   (c) by purchasing the securities issued to employees of the company pursuant
   to a scheme of stock option or sweat equity.

Where the company proposes to buy-back its shares, it shall, after passing of the special resolution or a resolution of the Board of directors at its meeting, make a public announcement within two working days from the date of resolution in at least one English National Daily, one Hindi National Daily and a Regional language Daily all with wide circulation, at the place where the registered office of the company is situated and shall contain all the material information as specified in Schedule II, Part A of SEBI Regulations on buy-back. A copy of the public announcement alongwith the soft copy, shall also be submitted to SEBI simulta- neously through a Merchant banker.
The company shall within 5 working days of the public announcement file with SEBI a draft letter of offer alongwith soft copy containing disclosures as specified in Schedule III through a merchant banker who is not associated with the company. The aforesaid draft letter of offer should be accompanied with the prescribed fee as per Schedule IV.
The Board may give its comments on the draft letter of offer not later than seven working days of the receipt of the draft letter of offer:
Provided that in the event the Board has sought clarifications or additional information from the merchant banker to the buyback offer, the period of issuance of comments shall be extended to the seventh working day from the date of receipt of satisfactory reply to the clarification or additional information sought:
Provided further that in the event the Board specifies any changes, the merchant banker to the buyback offer and the company shall carryout such changes in the letter of offer before it is dispatched to the shareholders.

Question 40

SEBI Regulations : SEBI (Buy-back of Securities). 2

Answer 40

Buy-back through negotiated deals, spot transactions and private placement will not be permitted. Further, any person or an insider shall not deal in securities of the company on the basis of unpublished information relating to buy-back of shares of the company.

Question 41

SEBI Regulations : SEBI (Buy-back of Securities). 3

Answer 41

Maximum price at which shares shall be bought back shall be determined either by shareholders through a special resolution or through the resolution passed by the Board of directors at its meeting. A copy of the special resolution or the Board’s resolution, as the case may be, shall be filed with SEBI as well as the stock exchange(s) where the shares of the company are listed within 7 days and 2 working days respectively from the date of passing of such resolution.

Question 42

SEBI Regulations : SEBI (Buy-back of Securities). 4

Answer 42

Companies buying back via stock exchanges must disclose purchases daily.

Question 43

SEBI Regulations : SEBI (Buy-back of Securities). 5

Answer 43

In case of buy-back of shares through the stock market route, the purchases shall
not be made from the promoters or persons in control of the company.

Question 44

SEBI Regulations : SEBI (Buy-back of Securities). 6

Answer 44

Promoters would be required to declare upfront the ‘pre’ and ‘post’ buy-back holding in order to prevent manipulation.

Question 45

SEBI Regulations : SEBI (Buy-back of Securities). 7

Answer 45

“A company making a buyback offer shall announce a record date for the purpose of determining the entitlement and the names of the security holders, who are eligible to participate in the proposed buyback offer.
The letter of offer alongwith the tender form shall be dispatched to the security holders who are eligible to participate in the buyback offer, not later than five working days from the receipt of communication of comments from the Board.
The date of the opening of the offer shall be not later than five working days from the date of dispatch of letter of offer.
The offer for buy back shall remain open for a period of ten working days.
The company shall accept shares or other specified securities from the security holders on the basis of their entitlement as on record date.
The shares proposed to be bought back shall be divided into two categories; (a) reserved category for small shareholders, and (b) the general category for other shareholders, and the entitlement of a shareholder in each category shall be calculated accordingly.
After accepting the shares or other specified securities tendered on the basis of entitlement, shares or other specified securities left to be bought back, if any, in one category shall first be accepted, in proportion to the shares or other specified securities tendered over and above their entitlement in the offer by security holders in that category and thereafter from security holders who have tendered over and above their entitlement in other category.”

Question 46

SEBI Regulations : SEBI (Buy-back of Securities). 8

Answer 46

Onus of compliance of SEBI regulations shall be on the merchant banker who shall be required to file a ‘due diligence certificate’ with the SEBI.

Question 47

Obligations of the company :

Answer 47

(b) No public announcement of buy-back shall be made during the pendency of any scheme of amalgamation or compromise or arrangement pursuant to the provisions of the Companies Act.
(c) The company shall nominate a compliance officer and investors service centre for compliance with the buy-back regulations and to redress the grievances of the investors.
(d) The company shall not buy-back the locked in shares and non-transferable shares till the pendency of the lock-in or till the shares become transferable.
(e) The company shall within 2 days of the completion of buy-back issue a public advertisement in a national daily, inter alia, disclosing:
(i) number of shares bought; (ii) price at which bought; (iii) total amount invested in buy back; (iv) details of shareholders from whom shares exceeding 1% of the total shares bought back; and (v) the consequent changes in the capital structure and the shareholding pattern after and before the buy-back.
(f) A company shall, after the completion of the buy-back under this section, file with the Registrar and the Securities and Exchange Board of India, a return containing such particulars relating to the buy-back within thirty days of such completion, as may be prescribed. However, no such return should be filed with the SEBI if its shares are not listed.

Question 48

RIGHTS ISSUE/ SECTION 62

Answer 48

A company limited by shares can increase its share capital by issuing new shares provided it is authorised by the Articles. The companies generally do not issue the whole of its authorised capital at once. When the directors feel the need for additional funds for expansion, diversification or modernisation, they may issue further shares. However, the power to issue further shares need not be used only when there is a need to raise additional capital. The power can be used to create a sufficient number of shareholders to enable a company to exercise statutory powers, or to enable it to comply with statutory requirements - Needle Industries (India) Ltd. v. Needle Industries Newey (India) Holding Ltd. [1981] 51 Comp. Cas. 743.

Section 62 of the Companies Act, 2013 provides that where at any time, a company having a share capital proposes to increase its subscribed capital by the issue of further shares, such shares shall be offered to persons who, at the date of the offer, are holders of equity shares of the company in proportion, as nearly as circum- stances admit, to the paid-up share capital on those shares.

Question 49

The offer shall be made by sending a ‘letter of offer’ subject to the following conditions, namely:—

Answer 49

the offer shall be made by notice specifying the number of shares offered and limiting a time not being less than fifteen days* and not exceeding thirty days from the date of the offer. If the offer is not accepted within the specified time, it shall be deemed to have been declined;
unless the articles of the company otherwise provide, the existing share- holder shall have a right to renounce the shares offered to him in favour of any other person.

The notice, as aforesaid, shall be dispatched through registered post or speed post or through electronic mode **[or courier or any other mode having proof of delivery] to all the existing shareholders at least three days before the opening of the issue.
The notice must contain a statement with respect to the right of a member to renounce the shares offered to him.
After the expiry of the time specified in the notice aforesaid, or on receipt of earlier intimation from the person to whom such notice is given that he declines to accept the shares offered, the Board of Directors may dispose of those shares in such manner which is not dis-advantageous to the shareholders and the company.
If a member did not respond to offers made by company, it has to be necessarily held that he was not inclined to subscribe to additional shares, thereby impliedly consenting for allotment of shares to others - R. Khemka v. Deccan Enterprises (P.) Ltd. [1998] 16 SCL 1 (A.P.).
However, where some shareholders of a company were not given notice to apply for allotment of additional shares, subsequent allotment of shares to other share- holders at a meeting was invalid - M.S. Madhusoodanan v. Kerala Kaumudi (P.) Ltd. [2003] 46 SCL 695 (SC).

Question 50

Alternatively, by passing a special resolution, shares may be offered to:

Answer 50

(a) employees under a scheme of employees’ stock option†; or
(b) to any persons, whether for cash or for a consideration other than cash.
In case of (b) above, the price of such shares shall be determined by the valuation
report of a registered valuer subject to such conditions as may be prescribed.
Exceptions - In the following circumstances, a company need not offer further issue of shares to the existing shareholders or to employees under a scheme of employees’ stock option.
1. Where a special resolution is passed in the general meeting.
2. In case of issue of shares against conversion of loans or debentures, if relevant conditions are satisfied

Question 51

Procedure for issue of rights shares

Answer 51

The various steps involved for issue of rights shares may be noted as follows:
1. See that the rights issue is within the authorised share capital of the
company. If not, steps should be taken to increase the same.
2. If the rights shares are to be issued out of ‘unclassified shares’, take steps to amend the capital clause to classify ‘unclassified shares’ as equity/prefer- ence shares proposed to be issued.28
3. Notify the stock exchange concerned the date of the Board meeting at which the rights issue is proposed to be considered.
4. Where the issue size exceeds Rs. 50 lakhs, take steps for the appointment of eligible merchant banker since, as per SEBI regulations, the appointment of an eligible merchant banker in case of rights issue of listed companies exceeding Rs. 50 lakhs is mandatory.
5. In case the issue is proposed to be made at a premium, fix the premium in consultation with the lead manager to the issue. Differential premium may, however, be charged, e.g., a higher premium may be charged from foreign investor as compared to the other existing shareholders.
6. Appoint registrars and the underwriters. Appointment of underwriters, as per SEBI regulations, is, however, optional.
7. Note that there can be no preferential allotment in respect of the rights issue except in favour of employees provided the value of allotment does not exceed Rs. 2 lakh.
8. In consultation with the stock exchange(s), fix the record date for the proposed issue.
9. If it is proposed to offer shares to persons other than the existing members, a general meeting be convened and a special resolution or an ordinary resolution in lieu of special resolution passed for the purpose in terms of section 62(1)(c).
10. If issue is to be offered to NRIs, file the requisite form and declarations with RBI. No prior approval of the RBI is required for offer of shares to NRIs on non-repatriation basis.
11. Forward six sets of letter of offer to the concerned stock exchange.
12. Note that in case the rights issue is withdrawn after the announcement of the record date, the regional stock exchange will not permit the making of application for listing of shares for a minimum period of 12 months from the record date.
13. Make arrangements with bankers for acceptance of share application forms.
14. Make arrangements for despatch of letters of offer to shareholders contain- ing details as per section 62 of the Companies Act, 2013 as well as SEBI regulations.
15. Ensure that the issue is kept open for a minimum period of 15 days but not beyond 30 days.
16. Open a specific bank account for keeping subscription received against rights issue. Note that the money deposited in this account cannot be utilised until and unless the company has received from the concerned regional stock exchange(s) approval for utilisation of this money.
17. In case the company does not receive 90% of the issue amount including accepted devolvement from underwriters within 60 days from the date of the closure of the issue, the amount of subscription received shall be required to be refunded.
In respect of underwriters’ devolvement, lead merchant banker must ensure that the underwriters honour their commitments within 70 days of the closure of the issue.
18. Prepare a scheme of allotment in consultation with stock exchange(s).
19. Convene Board meeting and make allotment of shares.
20. File return of allotment in the prescribed Form with Registrar of Companies within 30 days of allotment.
21. Complete other formalities such as refund of excess application money, issue of allotment letters, making of entries in various registers, etc.
22. Forward a report in the prescribed form to the SEBI within 15 days of the date of finalisation of allotment or within 15 days of refund or money in case of failure of issue.
23. Note that if the instrument of transfer of shares has been delivered to the company but the same has not been registered till the date of closure of register of members, keep in abeyance the offer of rights shares relating to the shares involved in the transfer - section 126 of the Companies Act, 2013.

Question 52

Bonus shares

Answer 52

The provisions with respect to issue of bonus shares are contained in section 63 of the Companies Act, 2013. Besides, in case of listed companies SEBI Regulations, 2018 shall also be required to be complied with29. Section 63 provides that:
(1) A company may issue fully paid-up bonus shares to its members, in any manner whatsoever, out of—
(i) its free reserves;
(ii) the securities premium account; or
(iii) the capital redemption reserve account:
However, no issue of bonus shares shall be made by capitalising reserves created
by the revaluation of assets.
(2) No company shall capitalise its profits or reserves for the purpose of issuing fully paid-up bonus shares under sub-section (1), unless—
(a) it is authorised by its articles;
(b) it has, on the recommendation of the Board, been authorised in the general
meeting of the company;
(c) it has not defaulted in payment of interest or principal in respect of fixed deposits or debt securities issued by it;
(d) it has not defaulted in respect of the payment of statutory dues of the employees, such as, contribution to provident fund, gratuity and bonus;
(e) the partly paid-up shares, if any outstanding on the date of allotment, are made fully paid-up;
(f) it complies with such conditions as may be prescribed.
(3) The bonus shares shall not be issued in lieu of dividend.

Question 53

SEBI Regulations, 2018 for issue of bonus shares( Conditions)

Answer 53

Only a listed issuer shall be eligible to issue bonus shares to its members if:
29.
(a) It is authorised by its articles of association for issue of bonus shares, capitalisation of reserves, etc.
If there is no such provision in the articles of association, the issuer shall pass a resolution at its general body meeting making provisions in the articles of associations for capitalisation of reserve;
(b) It has not defaulted in payment of interest or principal in respect of fixed deposits or debt securities issued by it;
(c) It has not defaulted in respect of the payment of statutory dues of the employees such as contribution to provident fund, gratuity and bonus;
(d) Any outstanding partly paid shares on the date of the allotment of the bonus shares, are made fully paid-up;
(e) Any of its promoters or directors is not a fugitive economic offender.

Question 54

SEBI Regulations, 2018 for issue of bonus shares( Restrictions)

Answer 54

(1) An issuer shall make a bonus issue of equity shares only if it has made reservation of equity shares of the same class in favour of the holders of outstanding compulsorily convertible debt instruments if any, in proportion to the convertible part thereof.
(2) The equity shares so reserved for the holders of fully or partly compulsorily convertible debt instruments, shall be issued to the holder of such conver- tible debt instruments or warrants at the time of conversion of such convertible debt instruments, optionally convertible instruments, warrants, as the case may be, on the same terms or same proportion at which the bonus shares were issued.
(3) A bonus issue shall be made only out of free reserves, securities premium account or capital redemption reserve account and built out of the genuine profits or securities premium collected in cash and reserves created by revaluation of fixed assets shall not be capitalised for this purpose.
(4) Without prejudice to the provisions of sub-regulation (3), bonus shares shall not be issued in lieu of dividends.

Question 55

Completion of a bonus issue

Answer 55

(1) An issuer, announcing a bonus issue after approval by its Board of Directors and not requiring shareholders’ approval for capitalisation of profits or reserves for making the bonus issue, shall implement the bonus issue within fifteen days from the date of approval of the issue by its Board of Directors:
Provided that where the issuer is required to seek shareholders’ approval for capitalisation of profits or reserves for making the bonus issue, the bonus issue shall be implemented within two months from the date of the meeting of its Board of Directors wherein the decision to announce the bonus issue was taken subject to shareholders’ approval.
(2) A bonus issue, once announced, shall not be withdrawn.

Question 56

DEBENTURES

Answer 56

Section 2(30) of the Companies Act, 2013 defines the term ‘debenture’ as follows: “Debenture includes debenture stock, bonds or any other instrument of a company
evidencing a debt, whether constituting a charge on the assets of the company or not.”

If we go by the aforesaid definition of ‘debenture’, bills of exchange or other negotiable instruments, deeds of covenant and many other documents in which a company stipulates to pay a sum of money will also qualify to be called as debentures. But, as Palmer rightly puts it, commercial men and lawyers would certainly not use this term when referring to such instruments.

Question 57

Characteristic features of a debenture

Answer 57

The characteristic features of a debenture are as follows :
1. It is a movable property.
2. It is issued by the company and is in the form of a certificate of indebtedness.
3. It usually specifies the date of redemption. It also provides for the re- payment of principal and interest at specified date or dates.
4. It generally creates a charge on the undertaking or undertakings of the company.

Question 58

Section 71 (9)

Answer 58

Where at any time the debenture trustee comes to a conclusion that the assets of the company are insufficient or are likely to become insufficient to discharge the principal amount as and when it becomes due, the debenture trustee may file a petition before the Tribunal and the Tribunal may, after hearing the company and any other person interested in the matter, by order, impose such restrictions on the incurring of any further liabilities by the company as the Tribunal may consider necessary in the interests of the debenture-holders.

Question 59

Debenture Redemption Reserve (DRR) Rule 18(7) of the Companies (Share Capital and Debentures) Rules, 2014 (11)

Answer 59

If any default is made in complying with the order of the Tribunal under this section, every officer of the company who is in default shall be punishable with imprisonment for a term which may extend to three years or with fine which shall not be less than two lakh rupees but which may extend to five lakh rupees, or with both.

Question 60

Debenture Redemption Reserve (DRR) Rule 18(7) of the Companies (Share Capital and Debentures) Rules, 2014 (12)

Answer 60

A contract with the company to take up and pay for any debentures of the company may be enforced by a decree for specific performance.

Question 61

Debenture Redemption Reserve (DRR) Rule 18(7) of the Companies (Share Capital and Debentures) Rules, 2014 (13)

Answer 61

The Central Government may prescribe the procedure, for securing the issue of debentures, the form of debenture trust deed, the procedure for the debenture-holders to inspect the trust deed and to obtain copies thereof, quantum of debenture redemption reserve required to be created and such other matters.

Question 62

Bearer debentures

Answer 62

Bearer debentures are similar to share warrants in that they too are negotiable instruments, transferable by delivery.
According to Perrins and Jeffreys, “By making debentures payable to bearer they are invested with the character of a negotiable instrument, so as :
1. to make them transferable free from equities;
2. to render the delivery of a debenture and any interest coupon a good discharge to the company;
3. to enable the bearer to sue the company in his own name, if necessary;
4. to ensure a good title to any person who acquires the debenture bona fide for valuable consideration, notwithstanding any defect in the title of the person from whom he acquires it.”
The interest on ‘bearer debentures’ is paid by means of attached coupons. On maturity, the principal sum is paid to the bearers.

Question 63

Registered debentures

Answer 63

These are debentures which are payable to the registered holders, i.e., persons whose names appear in the Register of debentureholders. Such debentures are transferable in the same way as shares or in accordance with the conditions endorsed on their back. The debenture itself consists of two parts:
(a) The covenants by the company to pay the principal and interest, and
(b) The endorsed conditions, e.g., the term of the loan.
The endorsed conditions vary, but they normally contain a provision that the debenture is one of a series all ranking pari passu. Where debentures rank pari passu, they will be discharged in proportion to the amount due in respect both of capital and interest, i.e., in the event of a deficiency of assets, if the interest on some debentures is paid down to a later date than others, the interest due on each is added to the capital thereof, and a proportionate distribution of the assets made. If there were no such provision, the deben- tures would rank in the order of issue regarding the assets charged by the company.

Question 64

Perpetual or irredeemable debentures

Answer 64

A debenture which contains no clause as to payment or which contains a clause that it shall not be paid back is called a perpetual or irredeemable debenture. Though irredeemable debentures were allowed under Section 120 of the Companies Act, 1956, no corresponding provision has been made under the Act of 2013. Thus, no fresh irredeemable debentures may be issued by the companies.

Question 65

Redeemable debentures

Answer 65

Redeemable debentures are to be redeemed as per the terms of the issue. Section 71 and the rules framed thereunder regulate issue of such debentures and the same have been discussed in the aforesaid paragraphs.

Question 66

Naked debentures

Answer 66

Normally, debentures are secured by a mortgage or a charge on the company’s assets. However, debentures may be issued without any charge on the assets of the company. Such debentures are called ‘Naked or unsecured debentures’. They are mere acknowledgements of a debt due from the company, creating no rights beyond those of ordinary unsecured creditors. Unsecured debentures are treated as deposits and should, therefore, conform to requirements applicable to public deposits accepted by a company.

Question 67

Convertible debentures

Answer 67

A company may also issue convertible debentures, in which case an option is given to the debenture-holders to convert them into equity or preference shares at stated rates of exchange, after a certain period. Section 71 requires the company to pass a special resolution for issue of convertible debentures whether wholly or partly. Such debentures once converted into shares cannot be reconverted into debentures.

Question 68

Fully convertible debentures

Answer 68

Fully convertible debentures are those debentures that are converted into equity shares of the company on the expiry of specified period or periods. Where the conversion is to be made at or after 18 months from the date of allotment but before 36 months, the conversion is optional on the part of the debenture holders in terms of SEBI guidelines.

Question 69

Non-convertible debentures

Answer 69

Non-convertible debentures are those debentures that do not confer any option on the holder to convert the debentures into equity shares and are redeemed at the expiry of a specified period(s).

Question 70

Partly convertible debentures

Answer 70

Partly convertible debenture consists of two parts, viz., convertible and non-convertible. The convertible portion(s) is/are convertible into equity shares at the expiry of specified period(s). Non-convertible portion, on the other hand, is redeemed at the expiry of a certain period(s). Where the conversion takes place at or after 18 months, as per SEBI’s guidelines, the conversion is optional at the discretion of the debenture-holder.

Question 71

Features of convertible debentures

Answer 71

The main features of convertible debentures may be noted as follows :
1. The debentures are converted into specified or unspecified number of equity shares at the end of a specified period. The ratio at which the convertible debentures are exchanged for equity shares is known as conver- sion price or conversion ratio. Conversion ratio is worked out by dividing the face value of a convertible debenture by its conversion price. For example, if the face value of the convertible debenture is Rs. 100 and it is convertible into two equity shares of Rs. 10 each, the conversion price is Rs. 50 and the conversion ratio is 2. Since the difference between the conversion price and the face value of the equity share is Rs. 40, the conversion premium per share is Rs. 40.
2. Convertible debentures may be fully or partly convertible. In case of fully convertible debentures, the entire face value is converted into equity shares at the expiry of certain period(s).
In case of partly convertible debentures, the convertible portion is converted into equity shares at the expiry of certain period(s), and the non-convertible portion is redeemed at the expiry of certain period.
3. Convertible debentures, whether fully or partly convertible, may be con- verted into equity shares at the end of specified period or periods in one or more stages.
In terms of SEBI guidelines, fully convertible debentures, with a conversion period of more than 36 months can be issued only with put and call option. If the conversion is at or after 18 months, but within 36 months, conversion will be at the option of the debenture-holder; otherwise, conversion is compulsory. The premium amount, if any, should be determined at the outset and the lower and the upper limits of premium should be stated in the offer document.
4. If one or more parts of debentures are convertible after 18 months, the company should get a credit rating of debentures done by a credit rating agency.
5. Interest on debentures may be paid as per the market forces. With effect from 1-8-1991 interest rates on debentures have been de-regulated and companies are permitted to pay any interest they consider reasonable. Debentures can also be issued as zero interest debentures where no interest is payable on the debentures.
6. Convertible debentures are listed on the stock exchanges. However, in practice, convertible debentures are not actively traded in the stock exchanges in India excepting those of reputed companies.

Question 72

Debenture trust deed

Answer 72

The trust deed contains the terms and conditions endorsed on the debentures and defines the rights of the debenture-holders and the company. A trust deed normally contains clauses giving the trustees the following powers:
1. To take a mortgage over the company’s property in which case the title deeds are transferred to them and the company is thereafter prevented from creating further charges ranking in priority to debentures.
2. To sell or lease the property and to renew leases.
3. To exchange the mortgaged property for other suitable property.
4. To modify subsisting contracts applying to any part of the property.
5. To compromise claims.
6. To commence and defend actions.
7. To appoint a receiver on the security becoming enforceable.

Question 73

Characteristics of a floating charge

Answer 73

The characteristics of a floating charge are :
1. it is a charge on a class of assets, present and future;
2. the class of assets charged is one which in the ordinary course of business, is changing from time to time;
3. until some steps are taken to enforce the charge, the company may continue to deal with the assets charged in the ordinary course of business.

Question 74

Reduction of share capital without the sanction of the Tribunal

Answer 74

There are some cases in which there is reduction of share capital and no confirma- tion by the Tribunal is necessary. These are:
(i) Buy-back of its shares by a company under Section 68.
(ii) Forfeiture of shares - A company may, in pursuance of its articles, forfeit
shares for non-payment of calls.
(iii) Surrender of shares - It is a short cut to forfeiture. It may be accepted by the company under circumstances where its forfeiture is justified. It has the effect of releasing the shareholder whose surrender is accepted from liability on shares.
(iv) Diminution of capital - This has already been explained. Section 61 (2) clearly states that diminution of capital does not amount to reduction of capital.
(v) Redemption of redeemable preference shares - This has already been ex- plained as provided by section 55.
Purchase of shares of a member by the company under section 242 - The Tribunal may order the purchase of shares of any member by the company, under certain circumstances.

Question 75

Reduction of Capital v. Diminution of Capital

Answer 75

DISTINCTION
1. Diminution of capital is the reduction of the issued capital. Reduction of capital involves reduction of subscribed or paid up capital; there is no reduction of issued capital.
2. Both require authorization by Articles but whereas ‘diminution’ can be effected by an ordinary resolution (if so authorised by Articles), reduction of capital cannot be effected without passing a special resolution.
3. ‘Reduction’ requires confirmation by Tribunal (Section 66) but ‘diminution’ needs no confirmation by the Tribunal (Section 61).

Question 76

Transfer of shares

Answer 76

One of the most important features of a company is that its shares are transferable. Section 44 empowers every shareholder to transfer his shares in the manner laid down in the Articles and in accordance with the various provisions of law. However, a private company is statutorily under obligation to place certain restrictions on the right of its members to transfer shares. One of the most common restrictions on transfer of shares in a private company is the “Pre-emption clause”, which states that the intending transferor must offer his shares to the existing members of the company, before offering them to non-members, so long as a member can be found to purchase them at a fair price to be determined in accordance with the Articles.
In the case of public companies also, there may be some restrictions on the right of members to transfer shares. Regulation 20 (Table F) provides that the Board of directors may refuse to register the transfer of partly paid shares to a person of whom they do not approve. Further, the Board of directors may refuse to register the transfer of any share on which the company has a lien. Regulation 21 also envisages certain conditions which may be introduced by a company in its Articles to restrict transfer of shares. It provides that the Board may also decline to recognise any instrument of transfer unless: (a) the instrument of transfer is in the form as prescribed in rules made under sub-section (1) of section 56; (b) the instrument of transfer is accompanied by the certificate of the shares to which it relates and such other evidence as the Board may reasonably require to show the right of the transferor to make the transfer; and (c) the instrument of transfer is in respect of only one class of shares.

Question 77

Distinction between shareholder and debenture-holder

Answer 77

1. A shareholder is a member of the company. A debenture-holder is a lender to the company.
2. A shareholder has a right to vote. A debenture-holder does not enjoy such a right. Sub-section (2) of Section 71 of the Companies Act, 2013 declares that no company shall issue any debentures carrying voting rights. “Voting right” means the right of a member of a company to vote in any meeting of the company or by means of postal ballot8.
3. Income on shares depends on the profits. Shareholders are entitled to get dividend only out of profits. Debentureholders are entitled to a fixed rate of interest which the company must pay irrespective of profits, i.e., profits or no profits.
4. In the event of winding-up, shareholders cannot claim payment unless all outside creditors have been paid in full. Debenture-holders, normally being secured lenders, have prior claim for repayment.
5. Dividend on shares is not a charge against profit. Interest on debentures, on the other hand, is a charge against the profits and is deducted from revenues for the purpose of calculating tax liability.

Question 78

Bearer debentures

Answer 78

Bearer debentures are similar to share warrants in that they too are negotiable instruments, transferable by delivery.
According to Perrins and Jeffreys, “By making debentures payable to bearer they are invested with the character of a negotiable instrument, so as :
1. to make them transferable free from equities;
2. to render the delivery of a debenture and any interest coupon a good discharge to the company;
3. to enable the bearer to sue the company in his own name, if necessary;
4. to ensure a good title to any person who acquires the debenture bona fide for valuable consideration, notwithstanding any defect in the title of the person from whom he acquires it.”

Question 79

SEBI Regulations, 2009 pertaining to convertible debt instruments

Answer 79

In addition to the requirements laid down in SEBI Regulations, 2009 relating to Issue of Capital and Disclosure Requirements12 an issuer making a public issue or rights issue of convertible debt instruments must comply with the following conditions:
(a) it has obtained credit rating from one or more credit rating agencies;
(b) it has appointed one or more debenture trustees in accordance with the provisions of section 71 of the Companies Act, 2013 and Securities and Exchange Board of India (Debenture Trustees) Regulations, 1993;
(c) it has created debenture redemption reserve in accordance with the provi- sions of section 71 of the Companies Act, 2013 and the rules made thereunder;
(d) if the issuer proposes to create a charge or security on its assets in respect of secured convertible debt instruments, it shall ensure that:
(i) such assets are sufficient to discharge the principal amount at all times;
(ii) such assets are free from any encumbrance;
(iii) where security is already created on such assets in favour of financial institutions or banks or the issue of convertible debt instruments is proposed to be secured by creation of security on a leasehold land, the consent of such financial institution, bank or lessor for a second or pari passu charge has been obtained and submitted to the debenture trustee before the opening of the issue;
(iv) the security/asset cover shall be arrived at after reduction of the liabilities having a first/prior charge, in case the convertible debt instruments are secured by a second or subsequent charge.

Question 80

Directors as trustees

Answer 80

A trustee is a person in whom is vested the legal ownership of the assets which he administers for the benefit of another or others. Directors are regarded as trustees of the company’s assets, and of the powers that vest in them because they administer those assets and perform duties in the interest of the company and not for their own personal advantage. In Ramaswamy Iyer v. Brahmayya & Co. [1966] 1 Comp. LJ 107 (Mad.), the Madras High Court held that “The directors of a company are trustees for the company, and with reference to their power of applying funds of the company and for misuse of the power they could be rendered liable as trustees and on their death the cause of action survives against their legal representatives”.
Besides, almost all the powers of directors, e.g., of allotting shares, making calls, forfeiting shares, accepting or rejecting transfers, etc., are powers in trust. “They have been made liable to make good money which they have misapplied, upon the same footing as if they were trustees.”

Question 81

Full time v. Part time Director

Answer 81

Companies Act makes no distinction between a full time and a part time director. In Jagjivan Hiralal Doshi v. Registrar of Companies [1989] 65 Comp. Cas. 553 (Bom.), the Bombay High Court observed that the plain meaning of director is the person occupying the position of director - call him a part time director or a full time director. The rules of construction do not call for any modification or qualification of this meaning. ‘Any director’ is an officer of the company. The Legislature which defined the word ‘officer’ has made no distinction based on full time and part time performance of duty.
The powers of the company are exercised by the Board of directors. It shall not exercise any power or do any act which is required to be exercised or done by the company in general meeting. Here again, no distinction founded on part time participation as member of the Board is discernible. The meeting of the Board of directors shall be held at least once in three months. In such meeting, every member participates in voting and takes decision without distinction as to whether he is a part time or full time director.
At every annual general meeting of the company held in pursuance of section 96, the Board of directors is enjoined to lay before the company a balance sheet. Every balance sheet and every profit and loss account of a company shall be signed on behalf of the Board of directors by not less than two directors of the company, one of whom shall be the managing director where there is one. In this signing requirement also no distinction has been made as regards full time or part time director. In other words, where there is a managing director, he should be one of the signatories and the other being any director. Where there is no managing director, both the signatories can be any director.
In the matter of proceedings of negligence, default, breach of duty, misfeasance and breach of trust, the Act and the rules admit of no distinction between members of the Board of directors based on their part time or full time performance of duties. Their liability for any proceedings for such acts is equal. While all the directors are, in law, liable for their acts, the question of relieving them is still one of discretion.
When the responsibility of all the directors, both performing part time duties or full time duties is equal, should any of the directors be relieved from the liability in respect of negligence, breach of trust, misfeasance, etc., is always a question of judicial discretion.

Question 82

Share v. Share certificate

Answer 82

A common man uses ‘share’ and ‘share certificate’ to mean one and the same thing. It is, therefore, important to note the exact difference between the two. Section 44 of the Companies Act, 2013 in this regard describes a share as a movable property transferable in the manner provided by the articles of the company. Section 46, on the other hand, describes a ‘certificate of shares’, to mean a certificate, under the common seal4 of the company, specifying any shares held by any member. Section 46 further suggests that a share certificate shall be prima facie evidence of title of the member to such shares. Thus, whereas ‘share’ represents property (movable), ‘share certificate’ is an evidence (prima facie) of the title of the member to such property.
Thus, the share certificate being prima facie evidence of title, it gives the share- holder the facility of dealing more easily with his shares in the market. It enables him to sell his shares by showing at once marketable title.

Also, a share certificate serves as an estoppel as to payment against a bona fide purchaser of the shares from alleging that the amount stated as being paid on the shares has not been paid. However, a person who knows that the statements in a certificate are not true cannot claim an estoppel against the company [Crickmer’s case [1875] 46 L.J. Ch. 870].

Question 83

Non-voting shares

Answer 83

‘Non-voting shares’ as the term suggests are shares which carry no voting rights. These are contemplated as shares which may carry additional dividends in lieu of the voting rights. Section 43 allows issue of equity shares without voting rights

Question 84

Par Value of Shares

Answer 84

SEBI Regulations permit the companies to issue shares of any par value subject only to the value being not less than Re. 1 or being other than multiple of Re. 1. Thus, different companies may now issue shares of different par value. For instance, XYZ Ltd. can issue shares to the public at say, Rs. 3, while ABC Ltd. can issue at Rs. 5.
Further, companies whose shares are dematerialised or who have applied for it would be eligible to alter the par value of shares indicated in the Memorandum and Articles of Association.
However, at any given time there shall be only one denomination for the shares of a company.

Question 85

Global Depository Receipts [Section 41]

Answer 85

Section 41 read along with Companies (Issue of Global Depository Receipts) Rules, 2014 allows a company which is eligible to do so in terms of the Scheme and relevant provisions of the Foreign Exchange Management Rules and Regulations to issue depository receipts in any foreign country. The depository receipts can be issued by way of public offering or private placement or in any other manner prevalent abroad and may be listed or traded in an overseas listing or trading platform.

Conditions for issue of GDRs, inter alia, include passing of a resolution by the Board as well as special resolution at a general meeting; the GDRs shall be issued by an overseas bank appointed by the company and the underlying shares shall be kept in the custody of a domestic custodian bank; the company shall appoint a merchant banker or a practising chartered accountant/practising cost accountant/practising company secretary to oversee all the compliances relating to issue of depository
receipts and take the compliance report from them.