Tag: Intellectual Property Rights

Section 2(62) of Companies Act defines a one-person company as a company that has only one person as to its member. Furthermore, members of a company are nothing but subscribers to its memorandum of association, or its shareholders. So, an OPC is effectively a company that has only one shareholder as its member.

Such companies are generally created when there is only one founder/promoter for the business. Entrepreneurs whose businesses lie in early stages prefer to create OPCs instead of sole proprietorship business because of the several advantages that OPCs offer.

The Companies Act, 2013 completely revolutionized corporate laws in India by introducing several new concepts that did not exist previously. On such game-changer was the introduction of One Person Company concept. This led to the recognition of a completely new way of starting businesses that accorded flexibility which a company form of entity can offer, while also providing the protection of limited liability that sole proprietorship or partnerships lacked.

Several other countries had already recognized the ability of individuals forming a company before the enactment of the new Companies Act in 2013. These included the likes of China, Singapore, UK, Australia, and the USA.

Features of a One Person Company

• Private company: Section 3(1)(c) of the Companies Act says that a single person can form a company for any lawful purpose. It further describes OPCs as private companies.
• Single-member: OPCs can have only one member or shareholder, unlike other private companies.
• Nominee: A unique feature of OPCs that separates it from other kinds of companies is that the sole member of the company has to mention a nominee while registering the company.
• Company may be a One Person Company (OPC) which requires only one person as a subscriber to form a company and such a company will be treated under the Act as a private company.
• A person, who registers one-person company, is not eligible to incorporate more than one one-person company
• The memorandum of OPC must indicate the name of a person (other than the subscriber), with his prior written consent in the prescribed form, who will become a member of the OPC when the subscriber dies or is incapacitated to contract.
• The nominee to the memorandum of one person company shall not be eligible to become a nominee for more than one such company.
• No perpetual succession: Since there is only one member in an OPC, his death will result in the nominee choosing or rejecting to become its sole member. This does not happen in other companies as they follow the concept of perpetual succession.
• Minimum one director: OPCs need to have minimum one person (the member) as director. They can have a maximum of 15 directors.
• No minimum paid-up share capital: Companies Act, 2013 has not prescribed any amount as minimum paid-up capital for OPCs.
• Special privileges: OPCs enjoy several privileges and exemptions under the Companies Act that other kinds of companies do not possess.

Privileges of One Person Companies

• They do not have to hold annual general meetings.
• A company secretary is not required to sign annual returns; directors can also do so.
• Provisions relating to independent directors do not apply to them.
• Their financial statements need not include cash flow statements.
• Their articles can provide for additional grounds for vacation of a director’s office.
• Several provisions relating to meetings and quorum do not apply to them.
• They can pay more remuneration to directors than compared to other companies.

Membership in One Person Companies

Only natural persons who are Indian citizens and residents are eligible to form a one-person company in India. The same condition applies to nominees of OPCs. Further, such a natural person cannot be a member or nominee of more than one OPC at any point in time.

It is important to note that only natural persons can become members of OPCs. This does not happen in the case of companies wherein companies themselves can own shares and be members. Further, the law prohibits minors from being members or nominees of OPCs.

Formation of One Person Companies

A single person can form an OPC by subscribing his name to the memorandum of association and fulfilling other requirements prescribed by the Companies Act, 2013. Such memorandum must state details of a nominee who shall become the company’s sole member in case the original member dies or becomes incapable of entering into contractual relations.

This memorandum and the nominee’s consent to his nomination should be filed to the Registrar of Companies along with an application of registration. Such nominee can withdraw his name at any point in time by submission of requisite applications to the Registrar. His nomination can also later be canceled by the member.

Advantages

• Compliance Burden:

The One-person Company includes in the definition of “Private Limited Company” given under section 2(68) of the Companies Act, 2013. Thus, an OPC will be required to comply with provisions applicable to private companies. However, OPCs have been provided with a number of exemptions and therefore have lesser compliance related burden.

• Organized Sector of Proprietorship Company:

OPC will bring the unorganized sector of proprietorship into the organized version of a private limited company. Various small and medium enterprises, doing business as sole proprietors, might enter into the corporate domain. The organized version of OPC will open the avenues for more favorable banking facilities. Proprietors always have unlimited liability. If such a proprietor does business through an OPC, then liability of the member is limited.

Minimum Requirements:

• Minimum 1 Shareholder
• Minimum 1 Director
• The director and shareholder can be same person
• Minimum 1 Nominee
• No Need of any Minimum Share Capital
• Letters ‘OPC’ to be suffixed with the name of OPCs to distinguish it from other companies

Limited Liability Protection to Directors and Shareholder:

• The most significant reason for shareholders to incorporate the ‘single-person company’ is certainly the desire for the limited liability.
• All unfortunate events in business are not always under an entrepreneur’s control; hence it is important to secure the personal assets of the owner, if the business lands up in crises
• While doing business as a proprietorship firm, the personal assets of the proprietor can be at risk in the event of failure, but this is not the case for a One Person Private Limited Company, as the shareholder liability is limited to his shareholding. This means any loss or debts which is purely of business nature will not impact, personal savings or wealth of an entrepreneur.
• If the business is unable to pay its liabilities, the individual has to pay such liabilities off in the case of sole proprietorship; and the individual is not responsible for such liabilities in the case of a one-person company.
• An OPC gives the advantage of limited liability to entrepreneurs whereby the liability of the member will be limited to the unpaid subscription money. This benefit is not available in case of a sole proprietorship.

Legal Status and Social Recognition For Your Business

One Person Company is a Private Limited Structure; this is the most popular business structure in the world. Gives suppliers and customers a sense of confidence in business. Large organizations prefer to deal with private limited companies instead of proprietorship firms. Pvt. Ltd. business structure enjoys corporate status in society which helps the entrepreneur to attract quality workforce and helps to retain them by giving corporate designations, like directorship. These designations cannot be used by proprietorship firms.

Adequate Safeguards:

In case of death/disability of the sole person should be provided through appointment of another individual as nominee director. On the demise of the original director, the nominee director will manage the affairs of the company till the date of transmission of shares to legal heirs of the demised member.

Easy to Get Loan from Banks

Banking and financial institutions prefer to lend money to the company rather than proprietary firms. In most of the situations Banks insist the entrepreneurs to convert their firm into a Private Limited company before sanctioning funds. So, it is better to register your startup as a One Person private limited rather than proprietary firm.

Perpetual Succession:

An OPC being an incorporated entity will also have the feature of perpetual succession and will make it easier for entrepreneurs to raise capital for business. The OPC is an artificial entity distinct from its owner. Creditors should therefore be warned that their claims against the business cannot be pressed against the owner.

Tax Flexibility and Savings

In an OPC, it is possible for a company to make a valid contract with its shareholder or directors. This means as a director you can receive remuneration, as a lessor you can receive rent, as a creditor you can lend money to your own company and earn interest. Directors’ remuneration, rent and interest are deductible expenses which reduces the profitability of the Company and ultimately brings down taxable income of your business.

Ownership limitations:

As per Rule 2.1 (1) of the Draft Rules under Companies Act, 2013 only a natural person who is an Indian citizen and resident in India shall be eligible to incorporate a One Person Company.

Thus, the person incorporating the OPC must be a natural person implying that it cannot be formed by a juristic person or an artificial person e.g. any type of company incorporated under Companies Act 2013.  This restricts the ownership of only individuals and not corporations.

This provision also discourages foreign direct investment by disallowing foreign companies and multinational companies to incorporate their subsidiaries in India as a One Person Company. Hence, an OPC will have to change their legal status to a private limited company to bring in investors. Foreigners and NRIs are allowed to invest in a Private Limited Company under the Automatic Approval route where 100% FDI is available in most sectors.

Restrictions on conversion

An OPC cannot be incorporated under Section 8 (Formation of companies with charitable objects etc) of Companies Act 2013. An OPC is also not allowed to carry out Non-Banking Financial Investment activities. This includes investing in securities of any body corporate.

An OPC can only convert into either a private or public company once the following conditions are met:

1. The OPC must have been in existence for a minimum of two years; or
2. It must have a paid up share capital which has increased beyond Rs. 50,00,000/- (rupees fifty lakh); or
3. Its average turnover must have exceeded Rs. 2,00,00,000/- (rupees two crore).

Such restrictions stifle an entrepreneur’s desire for diversity and expansion.

ESOPs

Since an OPC can have only one shareholder, there can be no sweat equity shares or ESOPs to incentivize employees. ESOPs can only be implemented if OPC converts into a private or public limited company. A private or public limited company can easily expand by an increase of authorized capital and further allotment of shares to even third parties.

Hence, a private company is a preferable option for start-ups who want to encourage their employees by way of stock options.

One of the major issues that gained attention after the 2007 and 2009 financial crisis due to Wall Street movement was the unduly high compensation being paid to executives of financial institutions even when the corporations were in a state of collapse. This movement against the executive remuneration gained momentum throughout the world. In U.S and many other countries there was a lot of hue and cry about excessive compensation being paid to top executives. Even though in India the situation regarding excessive executive remuneration has not reached alarming levels yet this issue needs to be taken seriously at this stage itself. If not given proper attention then it is not long enough when this problem would be quite glaring in India too.

Many recent corporate frauds such as Satyam fraud, Kingfisher’s fraud and many others have brought into light the dark side of Indian corporate governance practices. In almost all these frauds the executives were drawing a huge salary from the company at the expense of other stakeholders of the company be it shareholders or creditors etc.They used tricks to defraud the investors as well as creditors. Thus, this issue needs adequate attention else it would lead to more such frauds.

Various studies on remuneration schemes of executives in Indian Companies have reflected majorly 3 issues:

1. The remuneration is not strictly based on performance. The highest paid executives are usually not from the best performing companies and many a times even when the value of shares is declining constantly there is no major effect on the remuneration of top executives.
2. There is a huge gap in the compensation level of executives and median employees. The supports for high remuneration state that this is due to the dearth of talent at the top level but even then such a glaring difference in the basic pay as well as in the % increase in pay as compared to median employees is not justified.
3. Also, the studies have found that the promoter CEOs are paid much more in comparison to Non promoter CEOs.

In this paper I would basically study the reasons behind the above findings and would majorly focus on efficiency of current regime in curbing the same and also the role of other interested entities which can serve as a control mechanism on executive remuneration.

For this purpose firstly, analyze the context of executive remuneration and the issues associated with it wherein will focus on agency problem and also the role of ownership structure in enhancing the problem. Then would annalyse the efficacy of checks provided by the current regime on Executive remuneration i.e. Shareholders say on pay, Remuneration committee and linking Remuneration to performance. Lastly, examine the role of Institutional investors as a control mechanism against executive remuneration.

Meaning of Remuneration

Remuneration has been described in section 2(78) of the Companies Act 2013.As per this definition any payment in the form of money or its equivalent would be counted as remuneration. Perquisites would also be included in determining total remuneration. Perquisites in this case are those as defined under the Income tax Act, 1961.

Remuneration can be paid in various forms like cash, medical benefits, retirement benefits, share options, shares, sitting fee and perks and allowances like contribution to provident fund, rent free accommodation, travelling expenses, car etc. It is usually a combination of various forms. Certain perquisites and compensations are explicitly exempted from being counted as a part of remuneration

Role of Executive Remuneration

The role of executive remuneration is to attract and retain top talent at executive position and incentivize them in the way that they work for the benefit of the company while furthering the objective of the company and increasing the value of the firm.

Interplay Between Fixed and Variable Component

The role of fixed component is to fulfill the immediate needs of the employees. All types of companies are open to certain sector specific risks and fixed component reduces the effect of this risk by assuring certain determined amount of income.

On the other hand, variable component can be used to align the interest of executives to the interest of company. For example, if the executives are provided with certain number of shares as a part of remuneration then better performance would lead to increase in the share value of the company and would also increase executive’s compensation.

If the executives receive just fixed remuneration with no variable component then instead of working as incentive, it would actually dilute its effect and if the compensation would include only variable component then this would also frustrate the employee.

Thus, there must be combination of fixed as well as variable component wherein the fixed component work as an incentive to work and the variable component makes sure that the work is done in the interest of the company. Also, it is necessary that there must be interaction between various forms of compensation and the remuneration scheme must be arranged in a way that it is incentive based.

The income from capital gains is not an income which accrues or arises from day-to-day during a specific period but it arises at fixed point of time, namely, on the date of the transfer of a capital asset. Specifically, the income from capital gains is the amount by which the sale price of a capital asset, net of any expense incurred in connection with the sale of the asset, exceeds the acquisition cost of the capital asset. The taxation of capital gains is justified by the taxation policy and law on the premise that capital gains increases the ‘ability to pay’ capacity of the person receiving such a gain.

The provisions related to taxation of capital gains were first introduced in 1947 and then in 1956 and then said section 12B in Income tax Act, 1922 was retained as such in the relevant provisions in Income tax Act, 1961.

Charging sections – Sections 45, 46 and 46A

The charging section explains the subject matter of taxation. Thus, there is one charging section for each head of income for salaries, income from house property, business income and income from other sources. However, for capital gains, there are three independent and separate charging sections:

(i) Section 45: Capital gains

(ii) Section 46: Capital gains on distribution of assets by companies in liquidation

(iii) Section 46A: Capital gains on purchase by company of its own shares or other securities

Section 45 is the general provision while sections 46 and 46A are special provisions.

Incomes to be taxed under the head, ‘Capital Gains’

Thus, the following incomes are taxable as ‘capital gains’:

The situs/location of capital asset matters only for non-resident assessees and not to others. In the cases of Non-resident assessees, if capital asset located outside India is transferred outside India and sale proceeds are received outside India, no taxability to capital gains arises in view of section 5 of the Act. Such assessees will be liable to be taxed under section 9(1) (i) in respect of capital gains accruing or arising “through the transfer of any capital asset situate in India”.

Important Definitions in capital gains

Meaning of Transfer [Section 2(47)]

“Transfer”, in relation to a capital asset, includes:

(i) Sale, exchange or relinquishment of the asset;

(ii) Extinguishment of any rights in relation to a capital asset;

(iii) Compulsory acquisition of an asset;

(iv) Conversion of capital asset into stock-in-trade;

(v) Maturity or redemption of a zero coupon bond;

(vi) Allowing possession of immovable properties to the buyer in part performance of the contract;

(vii) Any transaction which has the effect of transferring an (or enabling the enjoyment of) immovable property; or

(viii) Disposing of or parting with an asset or any interest therein or creating any interest in any asset in any manner whatsoever.

Transactions which are not regarded as transfer [Section 47]

Following transactions shall not be regarded as transfer (subject to certain condition). Hence, following transaction shall not be charged to capital gains:

Full Value of Consideration

Full value of consideration is the consideration received or receivable by the transferor in lieu of assets, which he has transferred. Such consideration may be received in cash or in kind. If it is received in kind, then fair market value (‘FMV’) of such assets shall be taken as full value of consideration.

However, in the following cases “full value of the consideration” shall be determined on notional basis as per the relevant provisions of the Income-tax Act, 1961:

Cost of Acquisition

Cost of acquisition of an asset is the amount for which it was originally acquired by the assessee. It includes expenses of capital nature incurred in connection with such purchase or for completing the title of the property.

However, in cases given below, cost of acquisition shall be computed on notional basis:

* Terminal Depreciation/Balancing Charge:

1. a) Balancing Charge = Sales Consideration – WDV of the depreciable asset
2. b) Terminal Depreciation = WDV – Sales Consideration

Foreign currency cash flows:

• Record cash flows (those cash flows which arise from transactions in foreign currency) in functional currency.
• Cash flows of a foreign subsidiary shall be translated at the exchange rates between functional currency and foreign currency.
• Exchange rate at the date of cash flows shall be applied. Ind AS 21 permits the use of exchange rate that approximates the actual rate.
• Unrealized gains and losses arising from changes in foreign currency exchange rates are not cash flows. However, the effect of exchange rate changes on cash and cash equivalents is reported in the statement of cash flows in order to reconcile cash and cash equivalents at the beginning and the end of the period. This amount is presented separately from cash flows from operating, investing and financing activities.

Change in ownership (no such concept under AS 3):

1. Cash flows from obtaining / losing control in businesses (including subsidiary) shall be presented separately and classified as Investing activity and disclose the following:

• Total amount of consideration
• Portion of consideration consisting of cash and cash equivalents
• Amount of cash and cash equivalent over which control is obtained / lost
• Assets and liabilities (other than cash and cash equivalent) over which control is obtained / lost summarised in each major category.

2. Cash flow effects of losing control are not deducted from those of obtaining control.
3. Cash paid / received as consideration is reported net of cash and cash equivalents acquired / disposed on account of such transaction.
4. Cash flows arising from changes in ownership in subsidiary that do not result in a loss of control shall be classified as cash flows from financing activities, unless subsidiary is held by investment entity.

Non-cash Transactions:

Many investing and financing activities do not impact cash flows although they do affect the capital and asset structure of an entity. These shall be excluded from the statement of cash flows. Examples:

• Acquisition of assets by means of a finance lease;
• Conversion of debt to equity.
• Issue of bonus shares
• Conversion of term loan into equity shares

Such transactions shall be disclosed in the financial statements indicating investing / financing activity.

Changes in liabilities arising from financing activities (It was an amendment in Ind AS 7 and this provision was not there in AS 3):
• An entity shall provide the following disclosures to evaluate changes in liabilities arising from financing activities including both changes arising from cash flows and non-cash changes:
o changes from financing cash flows
o changes arising from obtaining or losing control of subsidiaries or other businesses;
o the effect of changes in foreign exchange rates;
o changes in fair values; and
o other changes.
• It also applies to changes in financial assets (for example, assets that hedge liabilities arising from financing activities) if cash flows from those financial assets included in cash flows from financing activities.
• Disclosure requirement can be fulfilled by: Reconciliation between the opening and closing balances in the balance sheet for liabilities arising from financing activities.
• If an entity discloses the same with disclosures of changes in other assets and liabilities, it shall disclose financing activities separately.
Disclosures:
• Components of cash and cash equivalents and reconciliation with amount appearing in balance sheet
• Policy adopted in determining composition of cash and cash equivalents
• Significant cash and cash equivalent that are not available for use by the entity (with commentary by management).
Examples: balance in unpaid dividend account, bank balance subject to legal restrictions, earmarked balances, bank balance for share application money / pending allotment of shares.
• Additional information (optional but standard encouraged the following disclosure):
o amount of undrawn borrowing facilities (indicating any restrictions on use)
o cash flows representing increases in operating capacity separately from cash flows required to maintain operating capacity;
o cash flows from operating, investing and financing activities of each reportable segment (same is required by Ind AS 108).

Demat System (short for Dematerialization system) refers to the process of converting physical share certificates into electronic form, enabling investors to hold and trade shares digitally through a dematerialized account. Introduced in India in 1996, the dematerialization process revolutionized the stock market by eliminating the need for physical certificates, streamlining the trading process, and making securities transactions safer, faster, and more efficient. The demat system is managed by depositories such as the National Securities Depository Limited (NSDL) and Central Depository Services Limited (CDSL), which function under the regulation of the Securities and Exchange Board of India (SEBI).

Key Features of the Demat System

• Electronic Form of Securities:

In the demat system, shares, bonds, debentures, and other securities are held in electronic form, eliminating the need for physical certificates. This offers ease of access and ensures that investors can quickly buy, sell, and transfer securities.

• Demat Account:

Similar to a bank account for money, a demat account is an electronic account where securities are stored. Each investor must open a demat account with a Depository Participant (DP), such as a bank, brokerage firm, or financial institution. The DP acts as an intermediary between the investor and the depository (NSDL or CDSL).

• Speed and Efficiency:

Dematerialization process allows for faster trading and settlement of securities. Before dematerialization, the physical transfer of shares took weeks or even months, involving paperwork and delays. Now, transactions are completed in a few days, with real-time updates.

• Safety and Security:

Holding securities in dematerialized form reduces the risk of theft, loss, forgery, and damage associated with physical certificates. The electronic form ensures greater transparency, and investors can track their holdings online through their demat account.

• No Stamp Duty:

No stamp duty is charged on the transfer of dematerialized securities, reducing transaction costs for investors.

• Nomination Facility:

Investors can assign a nominee to their demat account, ensuring that in the event of the account holder’s death, the securities are smoothly transferred to the designated individual.

• Multiple Securities in One Account:

In a demat account, an investor can hold various types of securities, such as shares, bonds, mutual funds, and government securities, in a single account, which offers greater convenience.

Process of Dematerialization:

Dematerialization is the process of converting physical share certificates into electronic form.

1. Opening a Demat Account:

An investor must first open a demat account with a Depository Participant (DP) by filling out an account opening form and submitting the required Know Your Customer (KYC) documents such as proof of identity, proof of address, and a PAN card.

DP provides the investor with a unique Beneficiary Owner Identification (BO ID) number, which is used to identify the account holder in all transactions.

2. Submission of Physical Certificates:

   • After opening a demat account, the investor submits the physical share certificates they wish to dematerialize to the DP along with a Dematerialization Request Form (DRF).
   • The DRF includes details such as the company’s name, the number of shares, and the certificate numbers.

3. Verification and Approval:

   • The DP sends the physical certificates to the relevant company’s Registrar and Transfer Agent (RTA) for verification.
   • Once verified, the RTA approves the dematerialization request, and the physical certificates are canceled.

4. Credit to the Demat Account:

   • After the RTA’s approval, the depository (NSDL or CDSL) credits the corresponding number of shares to the investor’s demat account.
   • The investor receives a notification confirming that the shares have been successfully dematerialized and credited to their account.

5. Trading of Dematerialized Securities:

After dematerialization, the shares can be bought, sold, and transferred electronically through the stock exchanges. Investors can monitor their holdings and transactions online, with settlement occurring in a shorter time frame (T+2 days, where T is the trading day).

Advantages of the Demat System:

• Elimination of Physical Risks:

In the physical form, share certificates were vulnerable to theft, forgery, loss, and damage. The demat system eliminates these risks by holding securities electronically, ensuring safety and security.

• Reduction in Paperwork:

Demat system removes the need for paperwork related to the issuance, transfer, and maintenance of share certificates. This reduces administrative burdens and streamlines the entire process for companies and investors alike.

• Faster Settlement of Trades:

In the pre-demat era, transferring shares involved a lengthy process of physical delivery, verification, and approval, taking several weeks. Now, trades are settled electronically within two days (T+2 settlement), ensuring faster and more efficient transactions.

• Lower Transaction Costs:

By eliminating physical transfers, the demat system reduces costs associated with paperwork, stamp duties, courier charges, and handling fees. Investors benefit from lower transaction costs, making trading more cost-effective.

• Enhanced Liquidity:

Dematerialization has enhanced liquidity in the stock market. Shares held in electronic form can be quickly and easily traded, increasing market efficiency and providing investors with greater flexibility.

• Access to a Broader Range of Securities:

Through a demat account, investors can hold a variety of securities, such as equity shares, bonds, debentures, government securities, mutual funds, and exchange-traded funds (ETFs), all in one place, offering convenience and diversification.

• Transparency and Monitoring:

Investors can easily monitor their holdings, transactions, and portfolio through online access to their demat account. Real-time updates ensure transparency in the management of securities.

• Simplified Pledging of Securities:

Securities held in a demat account can be pledged for loans, offering liquidity to investors. The dematerialized form makes it easier to pledge shares with financial institutions for credit or loan purposes.

Disadvantages of the Demat System:

• Technological Dependency:

Demat system relies on technology, and any system failures or glitches can disrupt trading and access to accounts. Cybersecurity threats and hacking risks are also present in the digital environment.

• Charges and Fees:

While the demat system reduces some costs, investors must pay account maintenance fees, transaction charges, and other service fees to the DP. These charges can add up over time, especially for small investors.

• Loss of Paper Certificates:

Some investors may still prefer holding physical certificates for sentimental reasons or for tangible proof of ownership. The transition to a demat system eliminates the physical representation of ownership.

• Fraud Risks:

Although the Demat system reduces physical fraud risks, it is not immune to other types of fraud, such as unauthorized access to demat accounts, hacking, or insider fraud.

Legal Framework for the Demat System in India

• Depositories Act, 1996:

This act provides the legal framework for the establishment of depositories and facilitates the dematerialization of securities.

• SEBI (Depositories and Participants) Regulations, 1996:

These regulations lay down the rules for the functioning of depositories and DPs.

• SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015:

Companies listed on stock exchanges must ensure that their securities are available for trading in dematerialized form.

Understanding your roles and responsibilities should be your first task when appointed. The board of directors is appointed to act on behalf of the shareholders to run the day to day affairs of the business. The board are directly accountable to the shareholders and each year the company will hold an annual general meeting (AGM) at which the directors must provide a report to shareholders on the performance of the company, what its future plans and strategies are and also submit themselves for re-election to the board.

The objects of the company are defined in the Memorandum of Association and regulations are laid out in the Articles of Association.

The board of directors’ key purpose is to ensure the company’s prosperity by collectively directing the company’s affairs, whilst meeting the appropriate interests of its shareholders and stakeholders. In addition to business and financial issues, boards of directors must deal with challenges and issues relating to corporate governance, corporate social responsibility and corporate ethics.

It is important that board meetings are held periodically so that directors can discharge their responsibility to control the company’s overall situation, strategy and policy, and to monitor the exercise of any delegated authority, and so that individual directors can report on their particular areas of responsibility.

Every meeting must have a chair, whose duties are to ensure that the meeting is conducted in such a way that the business for which it was convened is properly attended to, and that all those entitled to may express their views and that the decisions taken by the meeting adequately reflect the views of the meeting as a whole. The chair will also very often decide upon the agenda and might sign off the minutes on his or her own authority.

Individual directors have only those powers which have been given to them by the board. Such authority need not be specific or in writing and may be inferred from past practice. However, the board as a whole remains responsible for actions carried out by its authority and it should therefore ensure that executive authority is only granted to appropriate persons and that adequate reporting systems enable it to maintain overall control.

The chairman of the board is often seen as the spokesperson for the board and the company.

Appointment of directors

The ultimate control as to the composition of the board of directors rests with the shareholders, who can always appoint, and more importantly, sometimes dismiss a director. The shareholders can also fix the minimum and maximum number of directors. However, the board can usually appoint (but not dismiss) a director to his office as well. A director may be dismissed from office by a majority vote of the shareholders, provided that a special procedure is followed. The procedure is complex, and legal advice will always be required.

Roles of the board of directors

The roles of the board of directors include:

Establish vision, mission and values

• Determine the company’s vision and mission to guide and set the pace for its current operations and future development.
• Determine the values to be promoted throughout the company.
• Determine and review company goals.
• Determine company policies

Set strategy and structure

• Review and evaluate present and future opportunities, threats and risks in the external environment and current and future strengths, weaknesses and risks relating to the company.
• Determine strategic options, select those to be pursued, and decide the means to implement and support them.
• Determine the business strategies and plans that underpin the corporate strategy.
• Ensure that the company’s organizational structure and capability are appropriate for implementing the chosen strategies.
• PEST and SWOT analyses
• Determining strategic options
• Strategies and plans

Delegate to management

• Delegate authority to management, and monitor and evaluate the implementation of policies, strategies and business plans.
• Determine monitoring criteria to be used by the board.
• Ensure that internal controls are effective.
• Communicate with senior management.

Exercise accountability to shareholders and be responsible to relevant stakeholders

• Ensure that communications both to and from shareholders and relevant stakeholders are effective.
• Understand and take into account the interests of shareholders and relevant stakeholders.
• Monitor relations with shareholders and relevant stakeholders by gathering and evaluation of appropriate information.
• Promote the goodwill and support of shareholders and relevant stakeholders.

Responsibilities of directors

Directors look after the affairs of the company, and are in a position of trust. They might abuse their position in order to profit at the expense of their company, and, therefore, at the expense of the shareholders of the company.

Consequently, the law imposes a number of duties, burdens and responsibilities upon directors, to prevent abuse. Much of company law can be seen as a balance between allowing directors to manage the company’s business so as to make a profit, and preventing them from abusing this freedom.

Directors are responsible for ensuring that proper books of account are kept.

In some circumstances, a director can be required to help pay the debts of his company, even though it is a separate legal person. For example, directors of a company who try to ‘trade out of difficulty’ and fail may be found guilty of ‘wrongful trading’ and can be made personally liable. Directors are particularly vulnerable if they have acted in a way which benefits themselves.

• The directors must always exercise their powers for a ‘proper purpose’ – that is, in furtherance of the reason for which they were given those powers by the shareholders.
• Directors must act in good faith in what they honestly believe to be the best interests of the company, and not for any collateral purpose. This means that, particularly in the event of a conflict of interest between the company’s interests and their own, the directors must always favour the company.
• Directors must act with due skill and care.
• Directors must consider the interests of employees of the company.

Calling a directors’ meeting

A director, or the secretary at the request of a director, may call a directors’ meeting. A secretary may not call a meeting unless requested to do so by a director or the directors. Each director must be given reasonable notice of the meeting, stating its date, time and place. Commonly, seven days is given but what is ‘reasonable’ depends in the last resort on the circumstances

Non-executive directors

Legally speaking, there is no distinction between an executive and non-executive director. Yet there is inescapably a sense that the non-executive’s role can be seen as balancing that of the executive director, so as to ensure the board as a whole functions effectively. Where the executive director has an intimate knowledge of the company, the non-executive director may be expected to have a wider perspective of the world at large.

The chairman of the board

The articles usually provide for the election of a chairman of the board. They empower the directors to appoint one of their own number as chairman and to determine the period for which he is to hold office. If no chairman is elected, or the elected chairman is not present within five minutes of the time fixed for the meeting or is unwilling to preside, those directors in attendance may usually elect one of their number as chairman of the meeting.

The chairman will usually have a second or casting vote in the case of equality of votes. Unless the articles confer such a vote upon him, however, a chairman has no casting vote merely by virtue of his office.

Since the chairman’s position is of great importance, it is vital that his election is clearly in accordance with any special procedure laid down by the articles and that it is unambiguously minuted; this is especially important to avoid disputes as to his period in office. Usually there is no special procedure for resignation. As for removal, articles usually empower the board to remove the chairman from office at any time. Proper and clear minutes are important in order to avoid disputes.

Role of the chairman

The chairman’s role includes managing the board’s business and acting as its facilitator and guide. This can include:

• Determining board composition and organisation;
• Clarifying board and management responsibilities;
• Planning and managing board and board committee meetings;
• Developing the effectiveness of the board.

Find out more about director development and training.

Shadow directors

In many circumstances, the law applies not only to a director, but to a ‘shadow director’. A shadow director is a person in accordance with whose directions or instructions the directors of a company are accustomed to act. Under this definition, it is possible that a director, or the whole board, of a holding company, and the holding company itself, could be treated as a shadow director of a subsidiary.

Professional advisers giving advice in their professional capacity are specifically excluded from the definition of a shadow director in the companies legislation.

Dividends are a portion of a company’s profits distributed to its shareholders as a reward for their investment in the company. The decision to declare dividends is made by the board of directors, but the process is governed by several legal and regulatory frameworks to ensure fairness, transparency, and adherence to corporate governance norms. In India, the declaration and distribution of dividends are primarily regulated by the Companies Act, 2013, along with rules set forth by the Securities and Exchange Board of India (SEBI) for listed companies.

Meaning and Types of Dividends:

Dividend is a return on investment for shareholders, paid from the profits of the company. It can be issued in several forms:

1. Interim Dividend:

Declared by the board of directors during the financial year before the finalization of accounts. This is typically paid out of the profits earned during the current financial year.

2. Final Dividend:

Declared at the company’s Annual General Meeting (AGM) after the financial year has ended and the accounts are finalized. It is recommended by the board but requires shareholder approval.

3. Special Dividend:

Paid in extraordinary circumstances when the company has a significant surplus of profits or cash. This dividend is not a regular payout.

4. Stock Dividend (Bonus Shares):

Instead of cash, the company issues additional shares to its shareholders in proportion to their existing holdings.

5. Scrip Dividend:

The company issues a promissory note to the shareholders, promising to pay the dividend at a later date, which can be considered a form of deferred payment.

Legal Provisions for Declaration of Dividends Under the Companies Act, 2013

The provisions governing the declaration and distribution of dividends are laid down under Section 123 of the Companies Act, 2013, along with the Companies (Declaration and Payment of Dividend) Rules, 2014.

1. Declaration of Dividend

Profit Requirement:

Dividends can only be declared out of the following:

• • Current year profits after providing for depreciation and any necessary reserves.
  • Previous year profits that have not been transferred to reserves or used for dividends earlier.
  • Government Grant: If a company has received government assistance in certain situations, this may be considered in specific circumstances.

Free Reserves:

If the company’s profits are insufficient, it can declare a dividend out of its accumulated profits or free reserves, provided that:

• • The rate of dividend does not exceed the average rate of dividends declared in the preceding three financial years.

  • The amount withdrawn from the reserves is not more than 10% of the paid-up share capital and free reserves of the company.

Interim Dividend:

The board may declare an interim dividend out of profits available after providing for depreciation. However, if the company suffers a loss up to the quarter immediately preceding the interim dividend declaration, the interim dividend cannot be declared at a rate higher than the average dividend declared during the preceding three financial years.

2. Depreciation

• The company must provide for depreciation in accordance with Schedule II of the Companies Act, 2013 before declaring dividends.
• Any dividend declared without taking into account depreciation can be considered illegal and can attract penalties for the company and its directors.

3. Transfer to Reserves

Before declaring dividends, companies are required to transfer a certain percentage of their profits to reserves, as per the discretion of the board of directors. However, the Companies Act no longer mandates a specific minimum percentage to be transferred.

4. Dividend on Preference Shares

Preference shareholders are entitled to dividends at a fixed rate before any dividends are declared for equity shareholders. The dividend for preference shares must be paid first, and any arrears of preference dividends must be cleared if applicable.

5. Payment in Cash

Dividends must be paid in cash, cheque, or electronic means. A company cannot declare dividends in kind (i.e., through assets). However, stock dividends (bonus shares) are permissible.

6. Dividend Distribution Tax (DDT)

Finance Act, 2020, abolished the Dividend Distribution Tax (DDT). Earlier, companies were required to pay tax on the dividends distributed. Now, shareholders are liable to pay tax on the dividends they receive based on their individual income tax slabs.

7. Timeframe for Payment

Once a dividend is declared at the AGM, the company must pay the dividend to the shareholders within 30 days from the date of declaration. If the company fails to do so, it attracts penalties and interest charges.

8. Unpaid or Unclaimed Dividend

• If a dividend remains unpaid or unclaimed for 30 days from the date of declaration, it must be transferred to a special Unpaid Dividend Account within 7 days of the expiration of the 30-day period.
• If the dividend remains unclaimed for seven years, it must be transferred to the Investor Education and Protection Fund (IEPF).

Process for Dividend Distribution:

1. Board Meeting:

The process begins with a board meeting where the directors review the financial performance of the company. Based on profitability and liquidity, the board decides whether to recommend a dividend to the shareholders.

2. Declaration at AGM:

In the case of a final dividend, the declaration is made at the Annual General Meeting (AGM) of the company. The shareholders must approve the dividend recommended by the board. Without this approval, the company cannot distribute the dividend.

3. Record Date:

Company must set a record date, which is the cut-off date for determining the shareholders who are entitled to receive the dividend. Only those shareholders whose names appear in the company’s register on this date are eligible for the dividend.

4. Payment of Dividend:

Dividend can be paid via cheque, demand draft, or electronic transfer. The payment must be completed within 30 days of the declaration, failing which the company is subject to penalties.

Penalties for Non-Compliance:

Failure to comply with the rules regarding dividend declaration and distribution can result in penalties for both the company and its officers.

• Imprisonment and Fines:

Under Section 127 of the Companies Act, if the company fails to pay the dividend within 30 days of its declaration, every director who is knowingly a party to this default may be punished with imprisonment for up to 2 years and a fine of ₹1,000 for each day the default continues.

• Interest:

In case of a delayed payment, the company is liable to pay interest on the unpaid dividend at the rate of 18% per annum until the payment is made.

‘Underwriting’ refers to the functions of an under-writer. An under-writer may be an individual, firm or a joint stock company, performing the under-writing function. Under-writing may be defined as a contract entered into by the company with persons or institutions, called under-writers, who undertake to take up the whole or a portion of such of the offered shares or debentures as may not be subscribed for by the public. Such agreements are called ‘Under-writing agreement’.

Underwriting services are provided by some large financial institutions, such as banks, insurance companies and investment houses, whereby they guarantee payment in case of damage or financial loss and accept the financial risk for liability arising from such guarantee. An underwriting arrangement may be created in a number of situations including insurance, issues of security in a public offering, and bank lending, among others. The person or institution that agrees to sell a minimum number of securities of the company for commission is called the Underwriter.

A newly formed company enters into an agreement with an under-writer to the effect that he will take up shares or Debentures offered by it to the public but not subscribed for in fully by the public. Such an agreement may become necessary when a company issues shares or debentures for the first time to the public, or subsequently when it is in need of working capital.

When the company does not receive 90 per cent of issued amount from public subscription, within 120 days from the date of opening the issue, the company cannot proceed with allotment. In such a case, the company must refund the amount of subscription. In the case of a new company, it cannot obtain a certificate to commence function.

A company is not sure whether the shares or debentures offered for subscription may be taken up by the public. There arises a risk to ensure the success of issue. Therefore, companies resort to underwriting in order to ensure that sufficient number of shares or debentures would subscribed for. Thus, risk-bearing or uncertainty bearing is an important function of an underwriter.

Thus, an underwriter is a person who undertakes to take up the whole or a portion of the shares or debentures offered by a company to the public for subscription as may not be subscribed for by the public, prior to making such an offer. The company has to pay a commission to such an underwriter. It is known as underwriting commission. It is, of course, a type of insurance against under-subscription.

Need for underwriting

Investigate your credit history. Underwriters look at your credit score and pull your credit report. They look at your overall credit score and search for things like late payments, bankruptcies, overuse of credit and more.

Order an appraisal. Your underwriter will order an appraisal to make sure that the amount that the lender offers for the home matches up with the home’s actual value.

Verify your income and employment. Your underwriter will ask you to prove your income and employment situation.

Look at your debt-to-income ratio (DTI). Your DTI is a percentage that tells lenders how much money you spend versus how much income you bring in. An underwriter examines your debts and compares them to your income to ensure you have more than enough cash flow to cover your monthly mortgage payments, taxes and insurance.

Verify your down payment and savings. The underwriter also looks at your savings accounts to make sure you have enough savings to supplement your income or to use as a down payment at closing.

Functions of a Broker in Underwriting:

Broker is a person who helps in subscribing the shares. A broker is one who finds buyers for the shares or debentures of the company and gets the brokerage on the number of shares or debentures subscribed by the public through him. Underwriter is different from a broker. An underwriter is a person who agrees to take a specified number of shares or debentures, in case, not subscribed by the public.

That is, an underwriter is liable to take up shares in case the public fails to subscribe whereas a broker is not liable. Underwriter gets underwriting commission and a broker gets brokerage. Underwriter gives a guarantee whereas a broker does the service of placing the shares.

Thus, the function of an underwriter is of great economic significance since he himself assumes the risk of uncertainty on behalf of the company making public issue of shares or debentures. A broker, on the other hand, does not assume any such risk. Underwriting acts as a sort of insurance or guarantee against the danger of not receiving minimum subscription.

Sub Underwriting:

An underwriter may himself enter into a sub-agreement with other persons, called sub- underwriters, whereby he transfers a part of his underwriting risk. Just like re-insurance, sub- underwriting helps in spreading the risk. An underwriter may appoint several underwriters to work under him. However, the sub-underwriters have no privacy of contract with the company. They get their commission from the underwriter and are also responsible to him.

Importance of Underwriting:

1. Underwriting acts as a sort of insurance or guarantee against the danger of not receiving minimum subscription, in the absence of underwriting agreement, there is always uncertainty regarding subscription of shares of debentures by the public. The guarantee of the underwriters removes the uncertainty.
2. When shares or debentures are sold through underwriters, there arise more confidence amongst the public. This is because underwriters undertake shares or debentures of only those companies which are sound concerns and whose future is bright.
3. Underwriting creates an impression regarding sound status of a company. It increases the goodwill of the company.

Promoter occupies a unique and pivotal position in the process of company formation. They play a crucial role in turning a business idea into reality by undertaking various activities that culminate in the incorporation of a company. Despite not being formally recognized as an officer or agent of the company in the legal sense, the promoter holds a position of trust and responsibility. Their duties, powers, and liabilities are shaped by their relationship with the company they promote, and this relationship is regulated by principles of equity and statutory provisions under the Companies Act, 2013.

Role and Position of Promoter:

The promoter is neither an employee nor an agent of the company because the company does not exist at the time of promotion. However, their role is fundamental, as they are responsible for all the preliminary actions that lead to the creation of the company. The legal framework places the promoter in a fiduciary position, meaning they are expected to act with honesty, integrity, and transparency.

1. Fiduciary Position of the Promoter

Promoters are considered fiduciaries to the company they are forming. A fiduciary is a person entrusted with the responsibility of acting in the best interest of another party—in this case, the prospective company. As fiduciaries, promoters are bound by a duty of loyalty and good faith toward the company and its future shareholders.

• Acting in Good Faith:

The promoter must act honestly and with loyalty toward the interests of the company. They should not exploit their position for personal gains at the expense of the company.

• Avoiding Conflicts of Interest:

Promoters must avoid any situation where their personal interests conflict with the interests of the company. If a promoter stands to gain personally from a transaction, they must fully disclose this to the company’s shareholders.

• Full Disclosure of Material Facts:

If the promoter stands to gain from any contracts or arrangements they enter into on behalf of the company, they must fully disclose these facts to the future shareholders or directors. Failure to disclose any such interests could lead to legal consequences.

The fiduciary duty of a promoter begins from the moment they start engaging in activities aimed at forming the company and extends until the company is fully incorporated and operational. Any breach of fiduciary duty can result in legal action by the company or its shareholders, either to rescind contracts or seek compensation.

2. Legal Rights of the Promoter

Despite their fiduciary obligations, promoters do have certain legal rights:

• Right to Remuneration:

Promoters are entitled to be compensated for their efforts and expenses incurred during the promotion stage. However, there is no automatic right to payment; they can only receive remuneration if it is specifically agreed upon with the company. This could take the form of cash, shares, or debentures.

• Right to Reimbursement:

Promoters have the right to be reimbursed for any legitimate expenses incurred in the course of forming the company. This includes legal fees, registration charges, and costs associated with conducting feasibility studies and market research.

3. Liabilities of the Promoter

In addition to fiduciary duties, promoters also face certain legal liabilities. These liabilities primarily arise from the pre-incorporation contracts they enter into and their conduct during the promotion stage.

• Liability for Pre-Incorporation Contracts:

Since the company does not legally exist during the promotion stage, any contracts the promoter enters into on behalf of the company are not legally binding on the company. These are known as pre-incorporation contracts. As a result, promoters may be held personally liable for any obligations arising out of these contracts unless the company, after incorporation, adopts the contracts or a novation (transfer of the contract) takes place.

For instance, if a promoter enters into a contract to buy property or equipment before the company is incorporated, they are personally liable for fulfilling the terms of the contract unless the company agrees to adopt it after incorporation. If the company refuses or is unable to do so, the promoter can be held accountable.

• Liability for Misrepresentation:

Promoters may also be held liable for misrepresentation or fraud if they provide false information in the company’s prospectus or fail to disclose material facts to investors. If investors suffer losses due to such misrepresentation, the promoter may face legal action, including claims for damages.

The Companies Act, 2013, provides stringent measures to protect investors from fraudulent promoters. If a promoter is found guilty of making misleading statements or withholding important information in the prospectus, they may face criminal prosecution, civil liability, and penalties.

• Personal Liability in Case of Failure to Incorporate:

If the promoter fails to complete the incorporation process, they may be held personally liable for any obligations incurred during the promotion stage. The company does not exist yet, and therefore, the promoter is solely responsible for all actions and debts until the company is legally registered.

4. Promoter’s Role Post-Incorporation

The role of the promoter typically diminishes once the company is incorporated. However, some promoters may choose to continue their involvement in the company by becoming directors, shareholders, or holding other managerial positions. In such cases, their relationship with the company changes from that of a promoter to a director or officer, where they take on additional responsibilities under company law.

Once the company is incorporated, the promoter’s primary role as the originator of the business idea is complete. However, any breach of fiduciary duty or misconduct during the promotion stage can still lead to legal consequences post-incorporation.