Author: indiafreenotes

Articles of Association (AoA) is a key legal document required for the incorporation of a company. It outlines the internal regulations and governance structure of the company, setting the rules for how it will be managed and controlled. While the Memorandum of Association (MoA) defines the company’s relationship with the external world, the AoA focuses on its internal functioning. Together, these documents form the company’s constitution, determining its objectives and operational framework.

AoA must be submitted to the Registrar of Companies (RoC) during incorporation and must align with the provisions of the Companies Act, 2013 in India. It governs aspects like the conduct of board meetings, the appointment of directors, share transfers, and the rights and duties of shareholders.

Meaning of Articles of Association:

Articles of Association is a legal document that outlines the rules for a company’s internal management and procedures. It defines the responsibilities of the directors, the processes for making decisions, the rights and duties of shareholders, and the company’s rules for issuing and transferring shares. The AoA provides a framework for running the company’s day-to-day operations and ensuring smooth governance.

While the MoA defines the company’s objectives and limits, the AoA allows for flexibility in how those objectives are achieved. It acts as a contract between the company and its members (shareholders), as well as among the members themselves, ensuring that the company is managed in accordance with agreed rules and practices.

Contents of Articles of Association:

Companies Act, 2013, provides significant flexibility in drafting the Articles of Association, allowing companies to customize their internal regulations.

1. Share Capital and Variation of Rights

AoA outlines the company’s share capital structure, including the different classes of shares (e.g., equity shares, preference shares), and their respective rights and restrictions. It also specifies the process for issuing new shares, altering share capital, and varying the rights attached to different classes of shares.

2. Transfer and Transmission of Shares

This section of the AoA provides the rules for transferring shares between shareholders, including the procedure for the sale or gift of shares. It also covers the transmission of shares in the event of the death or insolvency of a shareholder. The AoA may include restrictions on share transfers, especially in the case of private limited companies, where shares cannot be freely transferred.

3. Board of Directors

AoA specifies the composition of the Board of Directors, their powers, and the procedures for their appointment and removal. It may include details about the minimum and maximum number of directors, the qualifications required to become a director, and the process for filling vacancies on the board. Additionally, it governs the roles and responsibilities of the board in managing the company’s affairs.

4. Meetings and Voting Rights

AoA outlines the rules for holding meetings of the board and shareholders, including the notice period, quorum requirements, and procedures for passing resolutions. It also specifies the voting rights of shareholders and directors, including whether decisions are made by simple majority or special resolution.

5. Dividends and Reserves

AoA defines the procedure for declaring and distributing dividends to shareholders. It includes the company’s policy on retaining profits for reserves, the amount to be distributed as dividends, and the process for calculating and paying dividends to shareholders.

6. Borrowing Powers

This section defines the borrowing powers of the company, including the authority of the Board of Directors to raise loans or issue debentures. It outlines the terms and conditions under which the company can borrow funds, including any limitations on borrowing.

7. Accounts and Audits

AoA specifies the rules regarding the maintenance of accounts, auditing of financial statements, and the appointment of auditors. It may also detail the financial year of the company and the process for approving and filing annual financial statements.

8. Winding Up

AoA includes provisions for the winding up of the company, detailing the process for liquidation and the distribution of assets in the event of the company’s dissolution. It may outline how assets are to be distributed among shareholders, creditors, and other stakeholders.

9. Indemnity

AoA may include an indemnity clause that provides protection to the company’s officers and directors against liabilities incurred in the course of performing their duties, provided they act in good faith.

Forms of Articles of Association:

AoA can take various forms depending on the type and structure of the company. While there is no prescribed form for the AoA under the Companies Act, 2013, the following are the common types of companies that need to customize their Articles:

1. Private Limited Companies

Private companies tend to have more restrictive Articles, particularly concerning the transfer of shares and the maximum number of shareholders. The AoA of a private limited company often includes specific provisions limiting the right to transfer shares, setting out processes for director appointments, and defining the company’s internal governance structure.

2. Public Limited Companies

AoA of public limited companies is generally more flexible compared to private limited companies, particularly in areas like share transfer and raising capital. Public companies must comply with additional regulatory requirements, and their AoA typically includes provisions that align with listing agreements and stock exchange rules.

3. One Person Companies (OPC)

In the case of One Person Companies, the AoA is relatively simple, as the company has only one shareholder and fewer compliance requirements. The AoA of an OPC will typically focus on the limited role of the single shareholder in managing the company’s affairs.

Alteration of Articles of Association:

Companies Act, 2013, allows for the alteration of the AoA as long as the changes comply with legal requirements and are approved by the shareholders. The AoA is a flexible document, and companies often need to update it to reflect changes in their business environment or governance needs.

Process for Altering the Articles of Association

1. Board Resolution:

The process for altering the AoA begins with the Board of Directors passing a resolution to propose changes to the Articles. The resolution must specify the reasons for the proposed alteration and schedule a general meeting of the shareholders.

2. Special Resolution:

The alteration of the AoA requires approval from the shareholders by passing a special resolution in the general meeting. A special resolution requires at least 75% of the shareholders to vote in favor of the changes.

3. Filing with the Registrar of Companies (RoC):

Once the special resolution is passed, the company must file the altered AoA with the RoC using the prescribed forms (e.g., Form MGT-14). The alteration becomes effective only after the RoC registers the modified AoA.

4. Approval by Regulatory Authorities:

In certain cases, the alteration may require approval from other regulatory bodies. For example, changes to the AoA of a public company listed on a stock exchange must be approved by the stock exchange or the Securities and Exchange Board of India (SEBI).

Limitations on Alteration:

• Consistency with the Memorandum of Association:

AoA cannot contain provisions that are inconsistent with the MoA. The MoA takes precedence, and any changes to the Articles must be in alignment with the company’s objectives as set out in the MoA.

• Statutory Restrictions:

Certain statutory provisions, such as those related to the rights of minority shareholders, cannot be altered without complying with the provisions of the Companies Act.

Allotment of Shares refers to the process by which a company distributes its shares to applicants who have subscribed during an offering, such as an Initial Public Offering (IPO) or private placement. Once the subscription period ends, the company reviews the applications, determines the allocation of shares, and officially assigns them to the investors. Allotment is done based on the availability of shares and the demand. If the offering is oversubscribed, shares may be distributed on a proportionate basis or through a lottery system, ensuring fairness to applicants.

Types of Allotment of Shares:

1. Public or Initial Allotment:

This occurs when a company issues shares for the first time through an Initial Public Offering (IPO) or a Follow-on Public Offer (FPO). Shares are allotted to the public based on their applications and may be determined through a fixed price or book-building process. If oversubscribed, allotment is done proportionally.

2. Private Placement:

Shares are allotted to a select group of investors, such as institutional investors, private equity firms, or wealthy individuals. It doesn’t involve public participation and is often quicker and subject to fewer regulatory hurdles.

3. Rights Issue Allotment:

Existing shareholders are given the opportunity to purchase additional shares in proportion to their current shareholding, often at a discounted price. Shares are allotted based on the shareholder’s entitlement and their decision to take up the offer.

Rules Regarding Allotment of Shares:

1. Minimum Subscription Rule:

A company can allot shares only if it receives a minimum subscription of 90% of the total issue within a specified period. If the company fails to achieve this, the issue must be canceled, and the application money is refunded to investors.

2. SEBI Guidelines (for Public issues):

Securities and Exchange Board of India (SEBI) sets rules for public issues, including requirements for disclosing financial details, ensuring fair pricing, and the process for allotting shares. Companies must follow these guidelines when issuing shares through IPOs or public offers.

3. Time Limit for Allotment:

Shares must be allotted within a prescribed time frame, usually 60 days from the date of receiving the application. If the company fails to allot shares within this period, it must refund the application money within 15 days. Otherwise, the company is liable to pay interest on the amount.

4. Return of Allotment:

After allotting shares, the company must file a Return of Allotment (Form PAS-3) with the Registrar of Companies (ROC) within 30 days. This document details the number of shares allotted, the shareholders, and the allotment process.

5. Listing Requirements:

If the shares are issued through an IPO or public offer, the company must ensure that the shares are listed on a recognized stock exchange. The allotment must comply with the rules and regulations of the stock exchange as well.

6. Proper Allotment Procedures:

The company must follow proper procedures during the allotment, including board approval, maintaining proper records of applicants, and ensuring fairness in case of oversubscription (proportional allotment or lottery system).

7. Non-Payment of Allotment Money:

If a shareholder fails to pay the allotment money, the company has the right to forfeit the shares after providing due notice.

Restrictions on Allotment of Shares:

1. Minimum Subscription:

Company cannot proceed with the allotment of shares unless it receives at least 90% of the total issue as a minimum subscription. If this threshold is not met, the company must refund the application money to investors. This ensures that the company raises adequate capital to meet its objectives.

2. Approval by Regulatory Authorities:

In the case of public offers, companies must receive approvals from regulatory authorities such as the Securities and Exchange Board of India (SEBI) and comply with its guidelines. Any non-compliance can lead to a restriction on the allotment process.

3. Time Limit for Allotment:

Shares must be allotted within 60 days from the date of receiving the share application. If the company fails to allot shares within this period, the application money must be refunded to the investors within the next 15 days. If not, the company must pay interest at a specified rate.

4. Prohibition on Allotment Before Filing the Prospectus:

Companies issuing shares to the public must file a prospectus with the Registrar of Companies (ROC) before making any allotment. Allotment without issuing or filing a prospectus is prohibited and can be declared void.

5. Return of Allotment:

After allotment, companies are required to file a Return of Allotment (Form PAS-3) with the ROC within 30 days of the allotment. If this form is not filed, further allotments may be restricted, and penalties may be imposed.

6. Oversubscription and Proportional Allotment:

In cases of oversubscription (when applications exceed the number of shares available), the company is restricted from issuing more shares than initially offered. It must allocate shares on a proportionate basis or through a fair method, such as a lottery system, to ensure equitable distribution.

7. Restrictions on Allotment to Certain Investors:

• Foreign Investors: Allotment to foreign investors must comply with the Foreign Direct Investment (FDI) guidelines. Companies cannot allot shares to foreign nationals or institutions without adhering to these rules.
• Restricted Categories: Allotments may be restricted for certain categories of investors, such as related parties or company insiders, without appropriate board approvals or shareholder resolutions.

8. Non-Payment of Allotment Money:

If the allotment money is not paid by the applicant within the specified time, the company has the right to forfeit the shares. The allottee loses their entitlement to the shares and any amount already paid.

9. SEBI Regulations (for Listed Companies):

For listed companies, allotment of shares must comply with SEBI’s guidelines, including transparency, proper disclosures, and fair pricing. Failure to adhere to these regulations can restrict further share allotments.

10. Lock-in Period:

For certain types of shareholders, especially promoters and institutional investors in private placements, a lock-in period may apply. During this period, these shareholders are restricted from selling or transferring their shares.

Reputed companies require the applicants to send the full value of the shares along with the applications. This is because, the Companies Act does not prohibit companies to collect the entire amount at the time of issue itself. But the usual practice of the companies is to collect a certain percentage of the face value of the shares on application and allotment and the balance in one or more installments known as calls.

A call may be defined as a demand made by the company on its shareholders to pay a part or the whole of the unpaid balance within a specified time. Lord Lindley says that the expression “Call” denotes both the demand for money and also the sum demanded.

The following points should be noted, in this context, so that the reader can understand what a call really means.

1. Time for Making the Call: The call can be made at any time during the life time of the company or during the course of winding up. During the life time, the call should be made by the Board of Directors and during the course of winding up, it should be made by the liquidator.
2. Obligatory: Each shareholder is obliged to pay the amount of call as and when the call is made. But, this liability arises only when the call is made and not before.
3. Debt Due: As soon as a call is made, the call amount shall become a debt due from the shareholders to the company.
4. Consequences of Default: If a shareholder fails to pay the call amount, the company can enforce payment of the amount together with interest or can forfeit the shares.
5. Calls and Other Payments: A call is different from other payments made by a shareholder. The amounts paid on application and allotment are not calls. Similarly, if a company requires the shareholders to pay the entire amount either on application or on allotment, it is not a call under this Act.

Legal Provisions Relating to the Calls

The statutory provisions relating to the making of calls can be summed up as follows:

1. Call should Bona fide: The power to make call is generally in nature of a trust and so it can be exercised bona fide and for the benefit of the company. It should not be made for private ends. It means the directors or the liquidator can make the call only when there is a bona fide need for funds.
2. Uniformity: The calls should be made on an uniform basis on all the shares falling under the same class. If a call is made only on some shareholders of the same class but not on others or a greater amount is demanded from some shareholders and a lesser amount from others of the same class, the call is not valid.
3. Provisions of the Articles: The calls should be made strictly in accordance with the provisions of the Articles. If this is not done, the call will be invalid.

Procedure for making Calls

Generally, the procedure for making calls is incorporated in the Articles of most companies. If a company has its own Articles, it should follow the provisions of its Articles. If not, the regulations specified in Table A of the Act shall apply.

The following provisions of Table A can be noted at this stage.

1. The power to make calls generally vests in the Board of Directors.
2. The calls should be made by passing a resolution at the meeting of the Board.
3. The call money should not exceed 50% of the face value of the share at one time. However, companies may have their own Articles and raise this limit.
4. There must be at least 30 days interval between two successive calls.
5. When a call is made a letter known as “Call Letter” or “Call Notice” should be sent to all the shareholders of the same class.
6. The notice should also specify the amount of the call, place of payment etc. and should be sent at least 14 days before the last date for payment.
7. The Board of directors has the power to revoke or postpone a call after it is made.
8. Joint shareholders are jointly and severally liable for payment of calls.
9. If a member fails to pay call money, he is liable to pay interest not exceeding the rate specified in the Articles or terms of issue. The directors are free to waive the payment of interest.
10. If any member desires to pay the call money in advance, the directors may at their discretion accept and pay interest not exceeding the rate specified in the Articles.
11. A defaulting member will not have any voting right till call money is paid by him.

Sec. 2(36) of the Companies Act describes a prospectus as “any document issued as a prospectus and includes any notice, circular, advertisement or other document inviting deposits from the public or inviting offers from the public for the subscription or purchase of any share in, or debentures of a body corporate.”

In other words, it is a document which invites deposits from the public or invites offers from the public for the subscription of shares in, or debentures of, a company. The words “inviting deposits from the public” were added by the Companies (Amendment) Act, 1974.

Features and Characteristics of Prospectus:

(i) It is a document issued as a prospectus;

(ii) It is an invitation to the member of the public;

(iii) The public is invited to subscribe to the shares or debentures of the company;

(iv) It includes any notice, circular, advertisement inviting deposits from the public;

(v) It is a document by which the company procures its share capital needed to carry on its activities.

Forms and Contents of the Prospectus:

Sec. 56 states that every prospectus must

1. State the matters specified in Part I of Schedule II, and
2. Set out the reports specified in Part II of Schedule II.

The Statement in Lieu of Prospectus is a document filed with the Registrar of the Companies ( ROC ) when the company has not issued prospectus to the public for inviting them to subscribe for shares. The statement must contain the signatures of all the directors or their agents authorized in writing. It is similar to a prospectus but contains brief information. The Statement in Lieu of Prospectus needs to be filed with the registrar if the company does not issues prospectus or the company issued prospectus but because minimum subscription has not been received the company has not proceeded for the allotment of shares.

If a public company does not invite the public to subscribe for its shares but acquires to have money from private sources it may not issue a prospectus. In the circumstances, the promoters are required to prepare a draft prospectus which is known as ‘Statement in lieu of Prospectus’ which must contain the information required to be disclosed by Schedule III of the Act.

Sec. 70(1) states that a company having a share capital which does not issue a prospectus shall not allot any of its shares or debentures unless at least 3 days before the allotment of shares or debentures there has been delivered to the Registrar for registration a statement in lieu of prospectus.

The statement shall be signed by every person who is named therein as a director or proposed director of the company or by his authorised agent in writing. It shall be in the form and contain particulars set out in Schedule III of the Act.

Sec. 70(4) lays down that, in contravention of Sec. 70(1), the company and every director of the company, who wilfully authorizes or permits the contravention shall be punishable with fine which may extent to Rs. 1,000.

Similarly Sec. 70(5) also states that where the statement in lieu of prospectus contains any untrue statement, the persons responsible, for the issue thereof, may be punished by imprisonment which may extend to 2 years or with fine which may extend to Rs. 5,000, or with both.

Red Herring Prospectus:

A Red Herring Prospectus is a document which is submitted by an issuer company who intents to have public offerings of securities (i.e.; stock or bonds). It is associated with an Initial Public Offering (IPO). It must be filed with the Securities and Exchange Commission (SEC). The term Red herring comes from the tradition where young hunting dogs in Great Britain were trained in order to follow a scent by the use of ‘Red’ (i.e. salted and smoked) herring (i.e., kipper).

It is interesting to note that this pungent fish would be dragged across a trail until the puppy learned to follow the scent. But the term is used in prospectus simply due to disclosure statement which is printed in red ink on the cover which clearly states that the issuing company is not attempting to sell its shares.

Contents of Red Herring Prospectus:

(a) Purpose of the issue;

(b) Proposed offering Price Range;

(c) Promotion expenses;

(d) Copy of the underwriting agreement;

(e) Underwriter’s commission and discount;

(f) Disclosure of any option agreement;

(g) Balance Sheet;

(h) Net proceeds to the issuing company;

(i) Earning statement for .last three years;

(j) Legal option on the issue;

(k) Copies of the Articles of Incorporation of the issuer; and

(l) Names and addresses of all offices, underwriters, directors and stockholders owning 10% or more of the existing outstanding stock.