A company is huge organisation and from directors to menial workers of a company work to attain the goal and running the business. However, there are some employees which go on a further hard working level to help company accomplish their desired goal or multifold the profits of the company.
Sweat equity is a party’s contribution to a project in the form of labor, as opposed to financial equity such as paying others to perform the task. Such employees of the company are appreciated not just by way of salary or remuneration hike but also giving something extra for their sweat invested in company. That is why the concept of Sweat equity shares in introduced.
The concept of sweat equity was first employed in the United States by the American Friends Service Committee in the Penn Craft self-help housing project beginning in 1937. In India, sweat equity shares was covered under the Companies Act, 1956 as well as The Companies Act, 2013. Know let us go through its various important aspects under the Companies Act, 2013.
As per the Section 2(88) of the Companies Act, 2013 defines “sweat equity shares” means such equity shares as are issued by a company to its directors or employees at a discount or for consideration, other than cash, for providing their know-how or making available rights in the nature of intellectual property rights or value additions, by whatever name called;
Any company can issue like:-
As defined in the definition given under the Section 2(88) of the Companies Act, 2013 sweat equity shares can be issued by a company to its
Employee:- As per Explanation (i) to Rule 8(1) of the Companies (Share Capital and Debentures) Rules, 2014, “Employee” means‑
(a) a permanent employee of the company who has been working in India or outside India, for at least last one year; or
(b) a director of the company, whether a whole time director or not; or
(c) an employee or a director as defined in sub-clauses (a) or (b) above of a subsidiary, in India or outside India, or of a holding company of the company;
Value Addition: As per Explanation (ii) to Rule 8(1) of the Companies (Share Capital and Debentures) Rules, 2014, “Employee” means actual or anticipated economic benefits derived or to be derived by the company from an expert or a professional for providing know-how or making available rights in the nature of intellectual property rights, by such person to whom sweat equity is being issued for which the consideration is not paid or included in the normal remuneration payable under the contract of employment, in the case of an employee.
Any Director or employees who have worked extraordinarily hard for a particular project or task or achieving a desired output of the company in any way are honoured by company by giving equity rights. The companies issue shares to them at discounted prices as compared to market value of shares of company.
As per the Companies Act, 2013, a company needs to comply with Section 54 read with The Companies (Share Capital and Debentures) Rules, 2014, remember that this applies for Unlisted Company.
If company is listed, then the company needs to comply with the SEBI Regulations also apart from Companies Act, 2013 provisions.
A company can allot any number of shares under the Sweat equity shares scheme however, mind the limit upto the Authorised capital of the company including paid up capital of company. For example, a company has authorised share capital of ten (10) Lakhs and paid up capital is five (5) Lakhs, then company can allot maximum five (5) lakhs of shares under the sweat equity shares, surpassing this limit can be done only after increasing the authorised capital of company before issuing the sweat equity shares.
The issue of sweat equity shares, following broad procedure needs to be followed:
(a) the date of the Board meeting at which the proposal for issue of sweat equity shares was approved;
(b) the reasons or justification for the issue;
(c) the class of shares under which sweat equity shares are intended to be issued;
(d) the total number of shares to be issued as sweat equity;
(e) the class or classes of directors or employees to whom such equity shares are to be issued;
(f) the principal terms and conditions on which sweat equity shares are to be issued, including basis of valuation ;
(g) the time period of association of such person with the company;
(h) the names of the directors or employees to whom the sweat equity shares will be issued and their relationship with the promoter or/and Key Managerial Personnel;
(i) the price at which the sweat equity shares are proposed to be issued;
(j) the consideration including consideration other than cash, if any to be received for the sweat equity;
(k) the ceiling on managerial remuneration, if any, be breached by issuance of such sweat equity and how it is proposed to be dealt with;
(l) a statement to the effect that the company shall conform to the applicable accounting standards; and
(m) diluted Earning Per Share pursuant to the issue of sweat equity shares , calculated in accordance with the applicable accounting standards.
As mentioned above in process only two (2) forms are required i.e. MGT-14 which should be filled within thirty (30) days from the passing of special resolution and PAS-3 which again should be filled within thirty (30) days from the allotment of shares in Board Meeting.
1) Where sweat equity shares are issued for a non-cash consideration on the basis of a valuation report in respect thereof obtained from the registered valuer, such non-cash consideration shall be treated in the following manner in the books of account of the company‑
(a) where the non-cash consideration takes the form of a depreciable or amortizable asset, it shall be carried to the balance sheet of the company in accordance with the accounting standards; or
(b) where clause (a) is not applicable, it shall be expensed as provided in the accounting standards.
2) The amount of sweat equity shares issued shall be treated as part of managerial remuneration for the purposes of sections 197 and 198 of the Act, if the following conditions are fulfilled, namely.-
(i) the sweat equity shares are issued to any director or manager; and
(ii) they are issued for consideration other than cash, which does not take the form of an asset which can be carried to the balance sheet of the company in accordance with the applicable accounting standards.
3) In respect of sweat equity shares issued during an accounting period, the accounting value of sweat equity shares shall be treated as a form of compensation to the employee or the director in the financial statements of the company, if the sweat equity shares are not issued pursuant to acquisition of an asset.
4) If the shares are issued pursuant to acquisition of an asset, the value of the asset, as determined by the valuation report, shall be carried in the balance sheet as per the Accounting Standards and such amount of the accounting value of the sweat equity shares that is in excess of the value of the asset acquired, as per the valuation report, shall be treated as a form of compensation to the employee or the director in the financial statements of the company.
If any company and directors fails to adhere with provision of sweat equity shares, there is no direct penal provision are given the governed provision however, the general section for Punishment Where No Specific Penalty or Punishment is Provided under the Companies Act, 2013, If a company or any officer of a company or any other person contravenes any of the provisions of this Act or the rules made thereunder, or any condition, limitation or restriction subject to which any approval, sanction, consent, confirmation, recognition, direction or exemption in relation to any matter has been accorded, given or granted, and for which no penalty or punishment is provided elsewhere in this Act, the company and every officer of the company who is in default or such other person shall be punishable with fine which may extend to ten thousand rupees, and where the contravention is continuing one, with a further fine which may extend to one thousand rupees for every day after the first during which the contravention continues.
Disclaimer: – The above article is prepared keeping in mind all the important and basic question as well as provision of section 54 of the Companies Act, 2013 which comes in mind of a professional or other stakeholder while company doing sweat equity shares allotment. The author has tried to cover all the important and basic question. Under no circumstance, the author shall not liable for any direct, indirect, special or incidental damage resulting from, arising out of or in connection with the use of the information.
(The Author is Corporate Consultant and provides varied array of services including Start-ups mentor, Secretarial, Legal, Trademark, taxation, Audit, GST, Book keeping and other ancillary advisory service in Delhi, Chandigarh as well as The National Capital Region (NCR) and can be contacted through email id:- firstname.lastname@example.org and Contact Number: 91-8178515005)