The Ministry of Corporate Affairs (“MCA”) has, by way of Notification dated 19-7-2016 amended the Companies (Share Capital and Debenture) Rules, 2014 (“Capital and Debenture Rules”).
Differential voting rights
Hitherto, companies could not issue equity shares with differential rights if they had defaulted in (a) the payment of dividends on preference shares, (b) the repayment of a term loan (or interest thereon) from specified institutions, (c) the payment of statutory dues relating to employees, or (d) crediting prescribed amounts in the Investor Education and Protection Fund. The amendment allows such defaulting companies to issue equity shares with differential rights after 5 years from the end of the financial year in which they make good the default. It may be noted here that the said amendment is only meant to liberalise the regime for public companies since private companies have in any case been exempt from applicability of Rule 4 of the Capital and Debenture Rules, which govern issuance of shares with differential voting rights.
Relaxations for start-up companies
A start-up company (as recognised by the Department of Industrial Policy and Promotion) may now issue sweat equity shares not exceeding 50% of its paid up capital for the first 5 years from the date of its incorporation (unlike the limit of 25% applicable to all other kinds of companies). Unlike all other companies, where there is restriction on issuing stock options to promoters and directors holding more than 10% of the share capital, a start-up has now also been permitted to issue stock options to its promoters and to directors who hold more than 10% of such start-up's equity shares for the first 5 years from the date of its incorporation.
Partly paid-up securities
The amendment has done away with the requirement of securities being fully paid up at the time of their preferential allotment. Earlier, there due to a restriction in the Capital and Debenture Rules which was not clear in its purport, interpretational issues arose while analysing the permissibility of undertaking a preferential allotment of partly paid up shares, and the only way out was to undertake a rights issue, wherein the non-subscribing members would waive their rights to the rights issue, with such waived portion of the issue being allotted to third parties. With this change, it will be possible to structure partly paid instruments in deal making.
Conversion price in case of convertible securities
Pursuant to this amendment, conversion price of resultant shares issued upon conversion of convertible securities, can now be determined (i) upfront, or (ii) 30 days before the holder of the convertible securities is eligible to convert its convertible securities, based on a valuation report of a registered valuer, which must be issued not later than 60 days prior to such date. The option to choose between (i) or (ii) above shall be decided and disclosed appropriately by the company, while making an offer of the convertible security. Through this amendment, the controversial requirement of making an upfront determination of the conversion price of convertible securities, at the time of issuance of the convertible securities, has now been done away with paving the way of greater regulatory clarity suiting convertible security structures, which by nature require flexibility in conversion and the pricing thereof.
Intimation to Registrar of Companies in case of companies not having share capital
In case a company not having share capital increases its number of its members, notice of such increase has to now be filed with the Registrar of Companies (“Registrar”) and an intimation in Form SH-7 will have to be filed with the Registrar irrespective of actual increase in share capital.
Changes pertaining to debentures
The Capital and Debenture Rules have now permitted companies issuing secured debentures to create a charge or mortgage on properties or assets not only of the company, but also of its holding company or subsidiary or associate companies or otherwise. This relaxation, of course, is limited only to creation of charge over ‘specific movable properties’, since creation of a charge over ‘specific immoveable property’ of the holding, subsidiary or associate companies had been permitted even before the avowed amendment.
For measuring adequacy of the Debenture Redemption Reserve (which is a reserve required to be created for the purposes of redemption of debentures, out of the profits of a company) (“DRR”), a company shall now take the value only of its ‘outstanding’ debentures, and not of all its debentures. Further, if the company intends to redeem its debentures prematurely, it may provide for transfer of such amount in DRR, even if it exceeds the limits specified in the Capital and Debenture Rules.