Business loans are quite beneficial when it comes to fulfilling the funds requirement of the company whether it is to finance working capital, expansion of the business or otherwise.
However, the Company may not be able to repay the loans taken on due date which is not a new occurrence. Impact on the credit score, recovery proceedings against the Company, enforcement of charge by lenders in case of secured loans are some of the common outcomes of such failure of repayment.
To avoid such consequences, the Company may opt for Conversion of Loan into shares which has been recognized under the provisions of Section 62(3) of Companies Act, 2013.
Under Companies Act, 2013
As per the provisions of Section 62(3) of the Companies Act, 2013 the conversion of loan into the shares of the Company caused by the exercise of an option as a term attached to loan raised is allowed subject to its in-principle approval through a special resolution passed by the company in general meeting before raising of such loan.
BEFORE RAISING OF LOAN
STEP 1: Convene a board meeting to consider the following:
STEP 2: Convene the EGM to pass the special resolution.
STEP 3: File Form MGT-14 within 30 days of passing the special resolution
STEP 4: Execution of Loan agreement containing such option of conversion
AT THE TIME TO CONVERSION:
STEP 5: Convene a board meeting to consider the following:
STEP 6: Prepare list of allottees
STEP 7: File Form PAS-3 within 30 days of passing board resolution for allotment of shares
STEP 8: issuance of Share certificates
STEP 9: File Form MGT-14 for issue of shares against the conversion
STEP 10: Make necessary entries in register of members.
Not applicable to private Company
Additional Requirements for Conversion of ECB (External Commercial Borrowings) into Equity
As per the Master Directions – External Commercial Borrowings, Trade Credits and Structured Obligations issued by RBI
Conversion of ECB, including those which are matured but unpaid, into equity is permitted subject to the following conditions:
For partial conversion, the converted portion is to be reported in Form FC-GPR prescribed for reporting of FDI flows, while monthly reporting in Form ECB 2 Return will be with suitable remarks, viz., “ECB partially converted to equity”.
For full conversion, the entire portion is to be reported in Form FC-GPR, while reporting in Form ECB 2 Return should be done with remarks “ECB fully converted to equity”. Subsequent filing of Form ECB 2 Return is not required.
For conversion of ECB into equity in phases, reporting through Form FC-GPR and Form ECB 2 Return will also be in phases.
Frequently Asked Questions (FAQ):
Can the loan which has been already taken by the Company be converted into the shares of the Company by modifying the terms of the loan and providing such option of conversion?
No, Section 62(3) specifically provides that the option to convert loan into the shares of the Company has to be approved through special resolution by the company in general meeting before raising of such loan.
Can the loan be converted into preference shares?
Section 62(3) does not restrict the company to convert the amount raised as loan into a specific type of Share. The word “shares” is used therefore it can be construed that the option of converting the loan into the shares can be given for both type of shares, i.e. Equity and preference.
However, for approval of giving such option for preference shares, Section 55 read with Companies (Share Capital and Debentures) Rules, 2014 needs to be complied with in addition to the requirements of this section.
What will be the event to convert such loan into the shares of the Company?
The event on happening of which the loan raised by the company can be converted into the shares will be as per the mutual agreement between the parties reduced in writing through loan agreement.
Is Valuation required for conversion of Loan under the provisions of this Act?
The requirement of Valuation is applicable on conversion of Loan into shares.
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Reference: Companies Act, 2013 and Master Direction – External Commercial Borrowings, Trade Credits and Structured Obligations