06.06.2014 FAPCCI, CS R.Ramakrishna Gupta Partner, R & A Associates

1. Related Party Transactions & Managerial Remuneration - • Companies Act, 2013 06.06.2014 FAPCCI, CS R.Ramakrishna Gupta Partner, R & A Associates

2. Coverage

4. Definitions Relative [Sec. 2(77) / Rule 4 of Companies (Specification of Definitions details) Rules, 2014 • Exclusions: • Grand Parents • Grand Children • Step Daughter • Brothers’ Wife • Sisters’ Husband • Inclusions: • Step Father Wife’s Brother continue to be outside the purview of Relative Blood Relation is the Basis

5. Definitions contd…. Related Party [Sec. 2(76)]: with reference to a Company means • a Director or his relative; • a KMP or his relative; • a Firm, in which a director, manager or his relative is a partner; • a Private company in which a director or manager is a member or director; • a Public company in which a director or manager is a director or holds along with his relatives, more than two per cent of its paid-up share capital; • any body corporate whose Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager; • any person on whose advice, directions or instructions a director or manager is accustomed to act: Provided that nothing in sub-clauses (vi) and (vii) shall apply to the advice, directions or instructions given in a professional capacity; • any company which is— • (A) a holding, subsidiary or an associate company of such company; or • (B) a subsidiary of a holding company to which it is also a subsidiary; • (ix) such other person as may be prescribed; Under Rule 3]of Companies (Specification of Definitions details) Rules, 2014: • Director or KMP of the Holding Company • Relative of Director or KMP of the Holding Company Scope is wider and larger than “Relative” • Who is not RP: • Public Companies where Director holds less than 2% of PUC • KMP of Subsidiary Company who is not connected to Directors of Hold Co. • Association of Persons (JVs)

7. Loan to Directors, etc. [Sec. 185]

8. Loan to Directors, etc [Section 185]

9. Loan to Directors, etc ….contd. • Section 185 prohibitive Section.. (unlike Section 295) • 185(1): Save as otherwise provided in this Act, no company shall directly or indirectly, • advance any loan including any loan represented by a book debt. • To: •     a.  any of its directors or •    b. to any other “person in whom the director is interested”or •  give any guarantee or • provide any security in connection with any loan taken by him or such other person.

10. Loan to Directors, etc ….contd. • “To any other person in whom director is interested” • Means the following: • a) Individual: • i.  any director of the lending company; or •     ii.  any director of its holding company; or •     iii. any partner of any such director; or •     iv. relative of any such director; • It is also important to understand the word ‘such director’. ‘Such’ would mean reference to the director of the lending company and director of its holding company. • Comments: • Director of a Subsidiary Company and relatives of such Directors are not covered. • Individuals • Partnership Firms • Companies • Body Corporate

11. Loan to Directors, etc ….contd. • b) Firm: • i. any firm in which any suchdirector is a partner; or •     ii. any firm in which the relative of any such director is a partner; • The firm may be a registered firm under the Indian Partnership Act, 1934 or may be a non-registered. • The firm includes the LLP. • c) Company: • i. any private company of which any such director is a director; or •   ii. any private company of which any such director is a member;

12. Loan to Directors, etc ….contd. • d) any Body Corporate: {Body Corporate includes a Foreign Company} • in which 25% or more of the Total Voting Power is exercised or controlled by one or more Directors at its general meeting. • Its Board of Directors, managing director or manager is accustomed to act in accordance with the directions or instructions of the Board or Director or Directors of the Lending Company. • Comments: • The expression “accustomed to” means customary; usual; habitual; habituated; acclimated; be used to; being in habit or custom. There must be a regular or usual practice of issuing directions or instructions by the Board or Director (s) of one Co. to the Board of another and Board of latter following them. • A single isolated event or two would not fall within the meaning of expression accustomed to act. • In Body Corporate (now Corporation Sole also included)

13. Loan to Directors, etc ….contd. • “Save as Otherwise Provided in this Act” • The words ‘save as otherwise provided in this Act’ is to be noticed. To elaborate, this would mean there are exceptions to Section 185 elsewhere in the Companies Act, 2013. • Section 186 of the 2013 Act can be considered as an exception to section 185 of the 2013 Act and hence what a company cannot do under section 185 can be done under section 186 – The answer is “NO” • Section 185 is a Special Provision and where as Section 186 is General Provision. • If we allow all the things which are not permitted u/s. 185 to be carried on under Section 186, then Section 185 will be virtually redundant. • Such an interpretation is contrary to the well-settled rule of statutory interpretation, that no provision of an enactment should be interpreted in such a way as to make it useless, ineffective and otiose. • Comments: • There seems to be a drafting error in Section 185. It should be “Save as otherwise provided under this Section”. Similar expression was used in Section 295 of CA, 1956.

14. Loan to Directors, etc ….contd. “Any Loan Represented by a Book Debt” Under Sec 185 of Companies Act, 2013, loan includes any loanrepresented by a book debt.  Book debt is a debt arising in the ordinary course of a business and such debt shall be entered in the books of accounts maintained in relation to that business. The coverage of loan represented by a book debt, in this sub section, is in line with the section 296 of the Erstwhile Companies Act 1956 with the difference that section 296 covers it by way of any transaction represented by a book debt which was from its inception in the nature of a loan or an advance. The expression “indirectly” means is that the company shall not give a loan to a director through the agency of one or more intermediaries. Further, the Word "indirectly" in the section cannot be read as converting what is not a loan into a loan. [Dr. FredieArdeshir Mehta Vs. Union Of India And Others on 3 August, 1989]

15. Loan to Directors, etc ….contd. • This clause appears to be very dangerous as any book debt in the books of the company, in the name of any Director or any other person in whom the Director is interested will be treated as a loan.  Hence, a company can’t make "credit sales" or can’t accept any contract or provide any service on credit basis to any other person covered u/s.185. • Book Debts can be of any amount due from Director. Suppose, a petrol bunk or gas company or ice cream company, etc. sells to director even on market price and collect the money once a month for sales made on daily basis to the director, there will be outstanding in the books of the company and any outstanding amounts to a book-debt). • Existing loans already provided by the company as on 12th Sep, 2013 are not affected by the above provisions. However the same shall be renewed and repaid on due date. • Comments: • There is an excessive prohibition. • Genuine credit transactions are badly hit if they are at Market Price

16. Exceptions to Section 185… Express Provisions: 1) the giving of any loan to a MD or WTD. (i) as a part of the conditions of service extended by the  company to all its employees; or (ii) pursuant to any scheme approved by the members by a special resolution; • This exception is only to Executive Directors and not for an ordinary director(s) and applies only for advancing Loan (not Guarantee / Security) 2) NBFC company – but interest charged should not be less than Bank Rate Declared by RBI 3) 100% Subsidiary: Any loan made / guarantee given / security provided by a Hold Co to its 100% Subsidiary Co.[Rule 10 of Companies (Meetings of Board and its Powers) Rules, 2014]. NO PROHIBITION FOR 100% WOS 4) Other Subsidiaries: Any Guarantee / Security provided by a Hold Co. in respect of a Loan by any Bank or Financial Institution to its Subsidiary Company (i.e. All Subsidiaries), provided such loans, etc are utilised by the Sub. Co. for its Principle Business activities [Rule 10]. Others: • Public Companies or its Directors • Director (s) of Subsidiary Company or relative of such Director. • Loan / Guarantee / Security given by a Public Company to its Subsidiary Company which is a Private Company.

17. Some illustration to wrap up Section 185… • E.g. 1: M/s. XYZ Private Limited having Mr. A as a Director decides to give loan / guarantee / security to M/s. PQR Private Limited having Mr. A as its Director – NOT permitted Clause (c) of the Explanation. • E.g. 2: If M/s. PQR Private Limited is a subsidiary of a Public Company then the situation would be different – it is permitted • E.g. 3: M/s. XYZ Private Limited having Mr. A as a Director decides to give loan to M/s. PQR Private Limited in which Mr. A is not a Director but a shareholder – NOT permitted Clause (c) of the Explanation. (even if Mr. R is holding a single share). • E.g. 4: M/s. XYZ Private Limited and PQR Private Limited does not have a single common director. However, in M/s. PQR Private Limited, wife (relative) of Mr. A is a Director – Permitted. • E.g. 5: M/s. XYZ Private Limited and M/s. PQR Private Limited does not have any common directors. If they have Mr. A as a common shareholder holding more than 25% voting power – Permitted. The situation is different if Mr. A is also a Common Director – NOT Permitted.

18. Penal Provisions… • 185(2): If contravention of section 185(1): i).  The GIVER and ii). The RECEIVER, both are punishable; • Giver (Company) - Fine Min. Rs. 5 Lacs upto Rs. 25 Lacs • Receiver ( Director or the other person): - Imprisonment which may extend to 6 months; or - Fine (not less than Rs.5 lakhs but may extend to Rs.25 lakhs) or with both • Officer in default punishable under Sec.450 (Residual Section) No Vacation of office (unlike Section 295)

20. Inter-corporate Loans and Investments [Sec. 186]…

21. Inter-corporate Loans and Investments [Sec. 186]… contd.. JJ Irani committee : “It is the Committees considered view that the mechanism of inter-corporate loans / investments and resultant transfer of funds to subsidiaries etc. should remain only an instrument of corporate growth rather than a method for diversion of funds from a healthy enterprise”. General Prohibitions…. • Applies to Both Private & Public Company • No Investment beyond two Layers of Investment Companies is allowed except in case: • Company acquiring any Foreign Company if such F.Co. has Investment Subsidiaries beyond 2 Layers as per the laws of Such Country. • A Subsidiary Company having any Investment Subsidiary to meet the requirements of law / rule / regulation at present. Comments: • Indian Companies can’t float a Foreign Subsidiaries and have Investment Subsidiaries beyond 2 Layers

22. Inter-corporate Loans and Investments [Sec. 186]… contd.. • Specific Restrictions… • Section applies both to Private & Public Companies • Applies to Loans / Guarantee / Security • Limits & Persons covered: Higher of the following: 60% of Paid-up Share capital + Free Reserves + SecuritiesPremium Account. Or 100% of Free Reserves + SecuritiesPremium Account. limits • All persons included those excluded u/s. 185 • are covered u/s. 186

23. Inter-corporate Loans and Investments [Sec. 186]… contd.. APPROVALS REQUIRED

24. Inter-corporate Loans and Investments [Sec. 186]… contd.. Other Conditions to be complied under Section 186: • Board’s Approval by way of Unanimous Resolution upto ceiling specified. • Special Resolution beyond the Ceiling Limit. • Approval of PFI’s: - When limit exceeds the Ceiling or any default to them towards repayment of principal or interest on Loans due to them. • Rate of Interest: not less that prevailing yield rate of 1 / 3 /5 /10 Years for Govt. Security closest to tenure of loan. • Condition Precedent: must pay the deposit(need not be a public Deposit) and interest thereon if any due before making any transactions. • No SH’s approval for WOS - subject to disclosures in FSs. • Disclosures in FSs: • Full particulars of Loans / Guarantee / Security • Purpose of Loans / Guarantee / Security to be utilised by Recipient • Maintain a Register to be in Form – MBP 2 • No provision for compiling the existing transactions.

25. Inter-corporate Loans and Investments [Sec. 186]… contd.. Exceptions…. • Banking Companies, Insurance and Housing Finance Companies • Any Company whose principal business is acquisition of Securities. • Loan / security / guaranteeprovided by Company to its WOS or JV Company. • Investment by H.Co. by way of subscription, purchase or otherwise of, the securities of its WOS. • Companies registered under Section 12 of SEBI Act, 1992 (Market Intermediaries) subject to ceiling prescribed by SEBI

26. Inter-corporate Loans and Investments [Sec. 186]… contd.. Register of Loans and Investments, etc. • Shall be maintained in chronological Order – manual or electronic • To be entered within 7 days of making of the transaction. • Shall be kept at the registered office and preserved permanently. • Authenticated by Company Secretary or any person authorised by the Board. • May be furnished to members on payment of fees not exceeding Rs.10/- for each page • Rules are silent as to Compilation of existing register

27. Inter-corporate Loans and Investments [Sec. 186]… contd.. Penalties ….. • Company: • Fine - Min. Rs. 25,000/- upto Rs. 5 Lacs • Office in Default: • imprisonment for a term which may extend to 2 years; or • Fine - Min. Rs. 25,000/- upto Rs. 5 Lacs

29. RELATED PARTY [Sec. 2 (76)]: Related Party with reference to a Company means • a Director or his relative; • a KMP or his relative; • a Firm, in which a director, manager or his relative is a partner; • a Private company in which a director or manager is a member or director; • a Public company in which a director or manager is a director or holds along with his relatives, more than two per cent of its paid-up share capital; • any body corporate whose Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager; • any person on whose advice, directions or instructions a director or manager is accustomed to act: Provided that nothing in sub-clauses (vi) and (vii) shall apply to the advice, directions or instructions given in a professional capacity; • any company which is— • (A) a holding, subsidiary or an associate company of such company; or • (B) a subsidiary of a holding company to which it is also a subsidiary; • (ix) such other person as may be prescribed; Under Rule 3]of Companies (Specification of Definitions details) Rules, 2014: • Director or KMP of the Holding Company • Relative of Director or KMP of the Holding Company Scope is wider and larger than “Relative” • Who is not RP: • Public Companies where Director holds less than 2% of PUC • KMP of Subsidiary Company who is not connected to Directors of Hold Co. • Association of Persons (JVs)

30. Related Party Transactions [Sec. 188 & Rule 16]… • Sections 294, 294A, 294AA, 297, 314 of CA, 1956 • Applies to both Private & Public Companies including OPC & Small Company • Emphasis is on Disclosures, transparency and Stakeholders approval • Approvals Required: • Audit Committee (by Listed & Public Companies prescribed) • Board’ Approval • PRIOR approval of Disinterested Shareholders by SR MCA views to JPC: The intention is to provide that companies manage their affairs, without intervention of Government, in a responsible manner with full disclosures, transparency and after obtaining approval of competent body (ies) i.e. Board or shareholders, as the case may be

31. Related Party Transactions [Sec. 188 & Rule 16]… Transactions Covered: (a) sale, purchase or supply of any goods or materials; (b) selling or otherwise disposing of, or buying, property of any kind; (c) leasing of property of any kind; (d) availing or rendering of any services; (e) appointment of any agent (need not be Sole Selling Agent)for purchase or sale of goods, materials, services or property; (f) such related party's appointment to any office or place of profit in the company, its subsidiary company or associate company; and (g) underwriting the subscription of any securities or derivatives thereof, of the company:

32. Related Party Transactions….contd.. Approvals Required & other conditions……

33. Related Party Transactions….contd.. Board Approval • All Companies requires Board Approval(Circular Resolution not allowed) • Board Agenda shall disclose: • Name of the RP and nature of relation • Nature, duration, Particulars of Contract • Material Terms of contract including value • Any advance paid or received • Manner of determining the price or other commercial terms • Whether all factors relevant to contract considered • Any other relevant information • Interested Director should not be present at the Meeting

34. Related Party Transactions….contd.. Audit Committee Approval • In addition to Board Approval • All Listed Companies • Public Companies with, • PUC of Rs. 10 Cr or more; or • Turnover of Rs. 100 Cr or more; or • Outstanding loans / borrowing / Debenture / Deposits of Rs. 50 Cr or more • Interested Director should not be present at the Meeting

35. Related Party Transactions….contd.. Shareholders Approval…. • Shareholders Prior Approval by way of Special Resolution • Approval should be by Disinterested Shareholders (except in WOS) • Applies to which Companies? • All Companies with PUC of Rs. 10 Crores • Others – based on the transaction value

36. Related Party Transactions….contd.. Other companies - Based on Transaction Value

37. Related Party Transactions [Sec. 188 & Rule 16]… [The expression “arm’s length transaction” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.] Other provisions….. • Transactions at “arm’s length” not covered • All RPTs shall be disclosed in the Board’s Report • In case of urgent contracts with Director / Employee– approval of Board / SHs can be sought in 3 months • Urgent Contract with Director / Employee – if not ratified by Board / SHs within 3 months – concerned shall indemnify loss, if any, incurred by the Company. • Listed Company [SEBI Cir. Dated April 17, 2014: • All existing material related party contracts or arrangements as on the date of this circular which are likely to continue beyond March 31, 2015 shall be placed for approval of the shareholders in the first General Meeting subsequent to October 01, 2014. However, a company may choose to get such contracts approved by the shareholders even before October 01, 2014.

38. Related Party Transactions [Sec. 188 & Rule 16]… Penalty for violation…….. • Company is open to proceed with Director / Employee to recover loss • Listed Company: • Imprisonment upto 1 Year; or • Fine Min Rs. 25K upto Rs. 5 Lacs; or • Both • Other Company: • Fine Min Rs. 25K upto Rs. 5 Lacs; or • Both • Disqualification for 5 years

43. The overall limits of Remuneration (Section 197) • For Public Companies: • upto 11% of the Net Profits for current year • Beyond 11% - approval of Central Government • In case of No Profits & in adequate Profits – upto the limits mentioned in Schedule V • For Private Companies • If profits are available – no limit • If no profit – as per limits given at Schedule V

44. Limits for Directors (Section 197)

45. Limitsunder Schedule V The above limits is Doubled – if Special Resolution is passed

46. Sitting Fees A company may pay sitting fee to a director for attending board meetingsorcommittee meetings, such sum as may be prescribed by the board which shall not exceed one lakh rupees per meeting of board or committee thereof. Provided that for Independent Directors and Women Directors, the sitting fee shall not be less than the sitting fee payable to other directors.