Dematerialisation of Securities in Private Companies: Rules & Benefits

Introduction: Dematerialisation is transforming the traditional paper-based securities system into a digital format, revolutionizing how stocks are managed. In the context of private companies, this shift brings about significant changes and is governed by Rule 9B.

What is DEMATRALIZATION?

It’s like turning your paper money into digital cash in a bank account. Instead of holding physical stock certificates, you have electronic records of them in a special account called a demat account.

Here’s how it works step by step:

1. Open a demat account: This is like opening a bank account for your stocks.

2. Hand over your physical certificates: Give your paper certificates to your depository participant (DP), who’s like the bank for your demat account.

3. DP sends certificates to issuer: The DP forwards the certificates to the company that issued the stocks (or their agent).

4. Issuer confirms and registers: The issuer checks the certificates and, if everything’s good, registers your stocks electronically with NSDL (a central depository).

5. NSDL credits your account: NSDL then adds the electronic records of your stocks to your demat account.

That’s it! Now you can manage your stocks electronically.

Here’s a flow chart to visualize the process:

Key changes introduced by Rule 9B:

MANDATORY DEMATERIALISATION:

• All private companies, except small companies as defined by the Ministry of Corporate Affairs (MCA), must issue and hold their securities in dematerialized form only.
• This means physical certificates will no longer be valid.

DEADLINE FOR BIG COMPANIES:

• Companies that are no longer considered “small” as of March 31st, 2023, have 18 months to dematerialize all their shares. Or Companies must comply within 18 months of the financial year when they cease to be a small company.
• Holding or Subsidiary Companies of Non-Small Companies also need to dematerialize all their shares.
• Small companies are exempt from this rule.
• Government companies exempt: This rule does not apply to government companies.

TRANSPARENCY FOR LEADERS

• Promoters, Directors and key personnel: Before making any offer for new shares, buybacks, bonus shares, or rights offers, promoters, directors, and key managerial personnel must dematerialise their entire holdings.
• Dematerialization for All Shareholders: Anyone who wants to Transfer Shares after the company’s deadline must first convert them to electronic form. This also applies to new share subscriptions through private placements, bonus shares, or rights offers.

Benefits of dematerialisation:

1) Enhanced transparency: Real-time tracking of ownership and improved corporate governance.

2) Reduced fraud: Less risk of forgery and lost certificates e.g. in Real Estate industries

3) Increased efficiency: Faster and easier transfer of securities.

4) Lower costs: No printing and handling of physical certificates.

Additional information:

• The rule also mentions penalties for non-compliance.
• Two new forms (PAS-7 and PAS-8) have been introduced for dematerialization purposes.

Overall, this rule aims to bring greater efficiency and transparency to the private company shareholding structure in India.

DEMATERIALIZATION RULES AS PER COMPANIES ACT 2013:

Specific procedures for dematerialization are outlined in sub-rules 4 to 10 of Rule 9A that is also applicable to non-small companies after the amendments, as follows:

1. Going Digital (Rule 4): All unlisted public companies (now non-small companies also) must help their shareholders switch from paper certificates to electronic shares (dematerialization).

• They do this by working with a depository (a company that holds shares electronically) and getting a unique code (ISIN) for each type of share.
• They then inform shareholders about the option to dematerialize their shares.

2. Staying Compliant (Rule 5):

• Companies must pay fees to the depository and registrar (a company that manages share records) on time.
• They must also maintain a security deposit with them.
• They need to follow all regulations and instructions related to dematerialization from the securities regulator and the depository.

3. Consequences of Non-Compliance (Rule 6):

• If a company fails to pay fees or maintain the deposit, they cannot raise new capital, buy back existing shares, or issue bonus shares.

4. Following the Rules (Rule 7):

• The rules for depositories, share transfer agents, and registrars generally apply to dematerialization of shares in unlisted public companies (now non-small companies also) as well.

5. Reporting and Reconciliation (Rule 8):

• Companies must submit a specific form (PAS-6) with fees to the registrar twice a year. This form reports on their share capital.
• They must also inform the depository if they find any discrepancies between their records and the dematerialized shares.

6. Handling Grievances (Rule 9):

• Shareholders who have problems with dematerialization can file complaints with the Investor Education and Protection Fund Authority.

7. Regulatory Action (Rule 10):

• The Investor Education and Protection Fund Authority can take action against depositories, share transfer agents, or registrars if they violate the rules, but they must consult with the securities regulator first.

In essence, these rules aim to make it easier and safer for unlisted public companies (or Non-small companies) to manage their shares electronically. They also ensure transparency and accountability and protect investors’ interests.

Please let me know if you have any further questions about specific parts of the rules or the dematerialization process in general.