Provisions related to ‘Private Placement’ under Companies Act 2013

I. Tug of war between Private Placement and Preferential Offer: Section 42 of the Companies Act, 2013, read with Rule 14 of the Companies (Prospectus and Allotment of Securities) Rules, 2014 prescribe the procedure for private placement of “securities” to any persons through the issue of a private placement offer letter and subject to an overall cap of 200 (see point II discussed later in this article) offers in a financial year. Explanation II to Section 42(2) provides that “private placement” means any offer of securities or invitation to subscribe securities to a select group of persons by a company (other than by way of public offer) through issue of a private placement offer letter and which satisfies the conditions specified in this section.

Section 62(1)(c), read with Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014 prescribes the procedure for preferential offer of “shares” to any persons with the authorization of a special resolution. Section 62(1)(c) provides as follows: “Where at any time, a company having a share capital proposes to increase its subscribed capital by the issue of further shares, such shares shall be offered to any persons, if it is authorised by a special resolution, whether or not those persons include the persons referred to in clause (a) or clause (b), either for cash or for a consideration other than cash, if the price of such shares is determined by the valuation report of a registered valuer subject to such conditions as may be prescribed.”

Prima facie the intention of the draftsman seems to create a distinction between the two processes as in on one hand Section 42 refers to securities while on the other hand section 62(1)(c) refers only to shares. Further section 42(5) additionally states that “all monies payable towards subscription of securities under this section shall be paid through cheque or demand draft or other banking channels but not by cash” whereas section 62(1)(c) clearly states that the issue of shares may be “for cash or for consideration other than cash“. However, the Companies (Prospectus and Allotment of Securities) Rules, 2014 and Companies (Share Capital and Debentures) Rules, 2014 when interwoven with these two sections give rise to some hazy situations as can be deciphered below:

a) Rule 13(1) of the Companies (Share Capital and Debentures) Rules, 2014 states that an issue on preferential basis should “also” comply with the conditions laid down in section 42 of the Act. Thus, impactfully a preferential issue must also comply with the procedure, conditions and restrictions imposed by section 42, read with Rule 14 of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

b) Rule 13(2) of the Companies (Share Capital and Debentures) Rules, 2014 states that: Where the preferential offer of shares or other securities is made by a company whose share or other securities are listed on a recognized stock exchange, such preferential offer shall be made in accordance with the provisions of the Act and regulations made by the Securities and Exchange Board. Rule 13(2) further provides that: Where the preferential offer of shares or other securities is made by a company whose share or other securities are not listed, the preferential offer shall be made in accordance with the provisions of the Act and Rules made hereunder and subject to compliance with the prescribed requirements. [Rule 13(2)(a)-(j) lay down specific procedural and disclosure requirements for preferential allotment by unlisted companies].

As is evident from above, Rule 13(2) is getting ultra vires the section 62(1)(c) since section 42 deals with securities and section 62 deals with the context whereby a company is increasing its subscribed capital by the issue of further shares. However, Rule 13(2) defines “preferential offer” in the context of section 62(1)(c) in terms of an issue of “shares or other securities”, which is itself defined as “equity shares, fully convertible debentures, partly convertible debentures or any other convertible securities.” This expands the scope of section 62(1)(c) to include instruments that were clearly not streamlined by the express wording of the section.

Pursuant to the notification of the Rules mentioned supra, the line of distinction that can be drawn is in the context of the kind of company proceeding with the private placement/preferential allotment, as the case may be. Section 42 read with Section 62(1)(c), Rule 14 of the Companies (Prospectus and Allotment of Securities) Rules, 2014 and Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014 signifies that listed and unlisted companies have different procedural requirements. That is a listed company would be required to comply with section 62(1)(c), read with Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014 and, therefore, necessarily with section 42, read with Rule 14 of the Companies (Prospectus and Allotment of Securities) Rules, 2014 and the applicable SEBI (ICDR) Regulations, 2009. On the other hand, an unlisted company will have to comply with section 62(1)(c), read with Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014 and, therefore, necessarily with section 42, read with Rule 14 of the  Companies (Prospectus and Allotment of Securities) Rules, 2014 and the requirements of Rule 13(2)(a) – (j) of the Companies (Share Capital and Debentures) Rules, 2014.

A question may arise as to whether an unlisted company can put forth that it is undertaking only a “private placement” and, therefore, need only comply with section 42, read with Rule 14 of the Companies (Prospectus and Allotment of Securities) Rules, 2014, while ignoring the requirements of Rule 13(2)(a) – (j) of the Companies (Share Capital and Debentures) Rules, 2014. A clarification from MCA is desirable in this regard.

II.Ceiling on number of offers: Section 42(2) provides that the offer of securities shall be made not to more than 50 persons in a financial year, or such higher number as may be prescribed. Correspondingly, Rule 14(2)(b) of the Companies (Prospectus and Allotment of Securities) Rules, 2014 increases the permissible number of offers to 200 persons in the aggregate in a financial year. It appears that Private placement can be carried out in any combination, subject to the aggregate ceiling of 200 persons and procurement of a separate special resolution for each set of offers.

III. Minimum subscription:: Rule 14(2)(c) of the Companies (Prospectus and Allotment of Securities) Rules, 2014 prescribes that the value of an offer or invitation per person shall be with an investment size of not less than Rs. 20,000 of the face value of the securities. The open arcade of posers would be:

(i) if it is merely the offer that must be of a minimum of Rs. 20,000 of the face value of the securities while the actual investment can be less, this limit is of no consequence and can easily be circumvented by investors.

(ii) the specification of “face value” may turn out to be problematic for companies whose securities have a small face value but an extremely high book value or market price, in which case they would like to seek more value for the securities they allot.

iv. Right of Renunciation under a Rights Issue: Section 62(1)(a)(ii) provides that:

“………(ii) unless the articles of the company otherwise provide, the offer aforesaid shall be deemed to include a right exercisable by the person concerned to renounce the shares offered to him or any of them in favour of any other person; and the notice referred to in clause (i) shall contain a statement of this right…….”

It appears from above that the right to renounce in favour of any other person is statutorily recognized, without any qualification as to who the “other person” may be, that is, there is no requirement that the person in whose favour the right is renounced has to be a member of the company. Accordingly, through rights issue the right to subscribe to the share capital of the company may be renounced in favour of a pre-determined set of non-members persons (such as – to offer its securities to a select group of persons outside the company) and the company may circumvent the burdensome requirements of a private placement (or, for that matter, a public issue).

(Compiled by FCA Kamal Garg, having academic and professional interests in IFRS, Taxation, Corporate Audit and Law Advisory disciplines. For any queries or suggestions he may be approached at cakamalgarg@gmail.com)