Performance Appraisal: A Decade with the Companies Act 2013
[Bharat is a student at Gujarat National Law University.]
A decade unfolds a multitude of stories, and the Companies Act 2013 (Act) is no exception. A company, the very embodiment of human enterprise, operates as both a product and a catalyst of socio-economic change. The Act, introduced with the vision of enhancing transparency, corporate governance and ease of doing business, has arguably weathered the test of time, and its provisions in shaping the contours of company law in India. The objective of the following piece is to uncover the enduring legacy and profound socio-economic ramifications of this landmark legislation over the course of the decade, navigating the ever-evolving landscape of the corporate legal framework. It specifically delves into the mandatory CSR compliance provision, issue through private placement and the concept of one person company (OPC), and explores how these three pivotal facets have shaped and been shaped by the corporate landscape in India over the last decade.
The CSR Quandary: Mandating Philanthropy
The inclusion of Section 135 in the Act was hailed as a pioneering endeavor. Surprisingly, the legislation does not exactly define what ‘CSR’ exactly is; it only mandates corporations to spend a minimum of 2% of their average net profits from the last 3 consecutive financial years. Mandatory CSR is in fact nothing but an inherent contradiction. Corporate philanthropy is essentially an inspirational exercise, but providing for compulsory CSR equates to legislating aspirations themselves. Recently, the Ministry of Corporate Affairs (MCA) reported that CSR expenditure has crossed INR 26,000 crores yet its "impact has not been widely felt" and that there exists a need to improve the visibility along with the effectiveness of these funds. Section 135 primarily establishes baseline standards without inherently fostering genuine proactive engagement. It is ironic that a corporation such as ITC, the leading cigarette manufacturer in the country, allocates its CSR funds towards cancer research. Even if there is a genuine rise in socially advantageous initiatives, the allocation of resources would not align with priorities determined through democratic means. Instead, these resources would be channeled according to the preferences of the companies involved. Determining and addressing society's most critical needs should rightfully be the purview of the government, which can allocate public funds to these areas in a deliberate manner.
An identical issue had been previously identified and remedied within the legal framework of Mauritius. In a manner akin to how Parliament prescribes what a qualified CSR program is, Mauritius had published guidelines categorizing CSR initiatives along with a list of NGOs approved to receive corporate donations. In the year 2015, these guidelines were abandoned and companies were permitted to run initiatives in accordance with their CSR agenda. Mauritius, however, did not take long to realize that abandoning the guidelines would rather increase disparity in resource allocation. This strengthens the argument for streamlining CSR funds to one independent body, that directs funds to determined priorities while ensuring limited disparity within regions and sectors. Hence, the Mauritius government introduced a new CSR framework which came into effect in October 2019, wherein each profitable company had to establish a CSR fund equivalent to 2% of its taxable income from the previous fiscal year. More importantly, a minimum of 75% of this CSR fund must be directed towards the Ministry of Finance. The funds earmarked for CSR are now received and administered by the National Social Inclusion Foundation (NSIF). The NSIF's governing body comprises representatives from the government, the private sector, the non-governmental sector, and academia.
The Private Placement Revolution
Private placement, a critical facet of corporate finance, has undergone significant regulatory transformations over the years. This method of raising capital, which involves the sale of securities to a select group of investors without the need for public offering, has been both a valuable tool for companies seeking investment and a source of concern due to potential misuse. The Act significantly modified provisions relating to issue through private placement, ensuring transparency and stringency in raising such funds. Section 42 presently necessitates that the issuances be directed exclusively to previously identified recipients, a characteristic that was absent from the preceding statutory framework. Notably, the Companies Act 1956 lacked a formal definition of 'private placement', thus deeming any solicitation for the subscription or purchase of debentures or shares by any segment of the public as private issuances, as stipulated in Section 67(3) of the Companies Act 1956. It is essential to highlight that this specific provision governing private placement pertains to the issuance of 'securities' rather than exclusively 'shares'. Consequently, the new provisions have expanded their scope to encompass a diverse array of financial instruments, including shares, bonds, debentures, and various marketable securities.
This statutory revamp is essentially a legislative response to the Sahara Judgement, wherein the Supreme Court of India underscored the need for a more stringent approach to private placement issues of securities. The Sahara case, while widely known, exemplifies a broader trend in which corporate entities have exploited legal ambiguities pertaining to private placement, potentially jeopardizing shareholder rights. The Sahara judgment is regarded as a milestone in the corporate landscape, affirming investor rights and shielding them from companies that exploited legal gaps to the detriment of vulnerable investors. Subsequently, corporate bond issuances have increased fourfold, from INR 10.51 lakh crores since before the enactment of Act up to INR 40.20 lakh crores recorded in the last financial year. A significant majority of these bond issuances has been executed through the private placement recourse, with corporations such as Adani recently raising over INR 1,250 crores a few months ago. Following the Sahara case, it is evident that the legal framework concerning private placement has become more robust, transparent, and secure.
One Person Companies and Nominee Challenges
The idea of an OPC was not novel, having already been implemented in various jurisdictions, including the UK, the USA, China, and Singapore. This legislative enactment marked the first time in India that the formation of a limited liability company by a single individual was permitted. The OPC's appeal lies in its simplified incorporation process and the assurance of limited liability, making it an attractive choice for aspiring entrepreneurs who wish to operate their businesses independently. While it allows sole proprietorship, the cost of incorporation for an OPC is often comparable to that of a private limited company. The primary advantage, however, is the establishment of a legal entity with limited liability, rather than an unlimited liability proprietorship, until the business operations reach a certain threshold. Recent data from the MCA indicates a substantial increase in OPC incorporations, with approximately 7,600 new OPCs formed in the last 12 months, bringing the total count to 34,446 OPCs in India. The growing use of OPCs for business endeavors has prompted ongoing amendments to OPC regulations, aimed at reducing compliance requirements and simplifying stringent restrictions.
The requirement to designate a nominee for the incorporation of an OPC, however, raises significant questions. The fundamental aim behind introducing OPC as a concept is to facilitate individual entrepreneurs in establishing ventures with limited liability, eliminating the need for seeking a business partner. However, this objective is somewhat overshadowed by the legal obligation that necessitates the shareholder to specify a nominee's name in the company's memorandum during incorporation. This nominee would assume membership in the event of the subscriber's demise or inability to contract, preserving the company's perpetual succession characteristic. Nevertheless, in practice, this mandate imposes procedural challenges on sole subscribers, compelling them to engage in the process of identifying a suitable nominee, securing their consent, and addressing the possibility of nominee withdrawal. Moreover, the provision allowing nominees to revoke their consent to their appointment poses an additional hurdle for the sole subscriber. In such instances, the sole subscriber is obligated to identify a replacement nominee within a 15-day timeframe, formally inform the company of this change, modify the company's memorandum accordingly, and subsequently notify the company registrar of this alteration. While the nominee concept has a rational purpose, it introduces practical complexities that detract from the overarching objective of OPC.
In retrospect, the Act has had a profound impact on India's corporate landscape over the past decade. It introduced critical changes in areas such as mandatory CSR compliance, private placement regulations, and the concept of OPC. While CSR compliance aimed to leverage corporate resources for social good, concerns persist regarding its effectiveness and fund allocation. Private placement regulations, on the other hand, have undergone significant enhancements, ensuring transparency and security in capital raising. Moreover, OPC has revolutionized corporate structures, offering simplified incorporation and limited liability, albeit with the persisting nominee appointment challenges. These legal reforms reflect an ongoing effort to balance corporate interests with social and regulatory responsibilities, underscoring the law's enduring influence on India's business environment.