Legal Provisions for Reduction of Share Capital under Companies Act, 2013

Reduction of Share Capital is a significant restructuring activity undertaken by a company to either adjust its capital structure, return surplus capital to shareholders, or write off accumulated losses. Under the Companies Act, 2013, the process is strictly regulated to protect shareholders’ interests and ensure compliance with the law. The legal provisions regarding the reduction of share capital are primarily governed by Section 66 of the Companies Act, 2013, and associated rules.

Meaning and Purpose of Capital Reduction:

The reduction of share capital refers to the process by which a company reduces its issued, subscribed, and paid-up share capital. This process is typically undertaken for various purposes:

• Adjusting the company’s capital structure due to losses.
• Returning surplus capital to shareholders that is no longer needed for the business.
• Canceling unissued shares or reducing the nominal value of shares.
• Writing off accumulated losses to present a healthier balance sheet.
• Discharging shareholders who do not participate fully in the company’s growth.

Reduction of capital can be carried out in various ways, such as:

• Canceling or extinguishing the liability of unpaid capital.
• Reducing the face value of shares.
• Buying back shares, and subsequently canceling them.
• Canceling any paid-up capital that is no longer needed.

Section 66 of the Companies Act, 2013:

This section lays down the legal framework for reducing the share capital of a company. Here are the key provisions:

1. Special Resolution:

• The reduction of share capital can only be initiated if a special resolution is passed by the shareholders in a general meeting. A special resolution requires at least 75% of the votes cast to be in favor of the resolution.
• The resolution must clearly specify the details of the reduction, the reason for it, and its effect on the company’s capital structure.

2. Approval of the National Company Law Tribunal (NCLT):

• After passing the special resolution, the company must seek the approval of the NCLT (National Company Law Tribunal).
• The company must file an application with the NCLT, including the special resolution and detailed justification for the capital reduction.
• The tribunal will carefully examine the application to ensure that the reduction is not prejudicial to the company’s creditors or shareholders.

3. Notice to Creditors and Objections:

• Before approving the reduction, the NCLT will direct the company to notify its creditors. This is done to ensure that creditors’ interests are not adversely affected by the reduction.
• Creditors have the right to object to the reduction if they believe that it will impact their claims or financial position.
• If creditors object, the NCLT may ask the company to settle the objections, provide security for their debts, or pay off the debts before proceeding with the reduction.

4. Court’s Order and Registration:

• Once the NCLT is satisfied with the company’s application and resolves any objections raised by creditors, it will pass an order approving the reduction of share capital.
• The NCLT may impose conditions while granting the approval to safeguard the interests of shareholders and creditors.
• After obtaining the NCLT’s approval, the company must file a certified copy of the tribunal’s order with the Registrar of Companies (ROC) within 30 days.
• The reduction of capital takes effect only after the order is registered with the ROC.

5. Publication of the Order:

The company is required to publish the order approving the reduction of share capital in a newspaper, as directed by the NCLT. This ensures transparency and informs all stakeholders of the change in the company’s capital structure.

Forms of Capital Reduction:

Reduction of share capital can take various forms under the Companies Act, 2013:

• Canceling Paid-up Share Capital:

A company may reduce its share capital by canceling paid-up capital that is not represented by available assets. This is commonly done to write off accumulated losses or to cancel shares that are no longer needed.

• Extinguishing or Reducing Liability on Partly Paid-up Shares:

In some cases, a company may decide to reduce the unpaid liability on partly paid-up shares. This means that shareholders are no longer required to pay the remaining unpaid capital, reducing their liability.

• Paying off Surplus Capital:

If a company has surplus capital that is not required for its operations, it may return this surplus to shareholders by reducing the nominal value of shares or buying back shares and canceling them.

Restrictions and Prohibitions:

The reduction of share capital is subject to certain restrictions. A company that is in default of repaying deposits or interest thereon cannot reduce its share capital unless it rectifies the default. Capital reduction must not result in the company holding shares in itself, as this would violate the provisions regarding the prohibition of owning treasury shares.

Impact of Capital Reduction:

• Effect on Shareholders:

Depending on the method of capital reduction, shareholders may see a reduction in the nominal value of their shares, or they may receive a payment in exchange for the cancellation of shares.

• Effect on Creditors:

The NCLT ensures that creditors’ rights are safeguarded. Creditors may demand full payment or security before agreeing to the reduction.

• Accounting Impact:

The reduction is reflected in the company’s balance sheet, affecting the paid-up share capital, reserves, and any surplus or deficit.

Non-compliance and Penalties:

If a company reduces its capital without following the legal provisions, it will be considered void and illegal. Any directors or officers involved in such a reduction may face penalties, including fines or imprisonment, as per the Act.