Introduction

Foreign Direct Investment (FDI) is one of the important source of funds for developing countries like India. Economic liberalization started in India in the wake of the 1991 crisis and since then, FDI has steadily increased in the country. With the lowering tax rate for corporates and availability of skilled and cheap labour, India become global hub for businesses since last few years.  

Foreign Direct Investment (FDI) in India can be made under the following two routes:

1. Automatic Route
2. Approval Route

Since most of the sectors are now open for private sector and sectoral cap is applicable in a few sectors only, Govt. approval route rarely comes into picture and hence, in this article, we will discuss the FDI under the Automatic route, its associated process, reporting requirements and valuation aspects. 

The following are the relevant laws applicable to the transaction dealing with issue of shares & securities to foreigners:

• Companies Act, 2013 
• FEMA Act, 1999 and FEMA (Non-debt Instrument) Rules, 2019
• Income Tax Act, 1961

Procedure for issue of shares to foreigners / foreign companies

There are following two mode of issue of shares to foreigners / foreign companies under the Companies Act, 2013:

1. Right Issue u/s 62(1)a
2. Preferential issue u/s 62(1)c read with Private Placement u/s 42

Procedure of Right issue u/s 61(1)a

The following is the brief process of issue of shares under right offer:

1. Convene a Board Meeting to discuss allotment of shares under right issue mode;
2. Send letter of offer to existing member and give offer to them first;
3. If they accept their right shares, then allot to them; 
4. If they renounce in favor of any other person then allot to such other person; 
5. If they renounce in favor of person as the board may deem fit then allot to whomsoever board may think fit;
6. Filing of return of allotment in form PAS-3 with the Registrar of Companies;
7. Filing of Form FC-GPR with the RBI. 

Under right issue method, Shareholders’ Meeting is not required to be convened since all the members will receive offer letter first in the proportion of their shareholding in the company to subscribe to the issue. This method is comparatively easy and convenient for small unlisted companies having few shareholders only.

Procedure of Preferential issue u/s 62(1)c and Section 42

The following is the brief process of issue of shares under private placement:

1. Convene a Board Meeting to discuss allotment of shares under preferential issue and private placement;
2. Take valuation report from a registered valuer; 
3. Convene a General Meeting and pass special resolution of members;
4. File Special resolution in form MGT-14 with the Registrar of Companies;
5. Open Separate bank account for receipt of subscription money;
6. Issue Private Placement offer letter in PAS-4 after filing of special resolution in MGT-14;
7. Allot the shares to third person based on valuation report of RV;
8. Filing of return of allotment in form PAS-3 with the Registrar of Companies;
9. Filing of Form FC-GPR with the RBI. 

Under this method, passing of special resolution, filing of form MGT-14, taking of valuation report from registered valuer is required. This method is suitable for large listed companies having many shareholders and Company wants to allot shares to few selected investors only. 

Pricing Guidelines

While issuing shares and securities to foreigners or foreign companies, we have to become extra cautious in pricing the instrument as it involves transfer of asset and foreign currency. We need to price our instrument in compliance with the FEMA Act and rules as well as Income Tax Act and its rules. We have to make a combine reading of Companies Act, 2013, FEMA Act, 1999 and FEMA (Non-debt Instrument) Rules and Income Tax Act, 1961 while issue of shares and other securities to foreigners. 

1. FEMA Act, Rules and Regulations 

Under FEMA Rules, the price of the Capital Instruments of an Indian Company shall not be less than Fair Market Value (FMV) calculated based on any internationally accepted pricing methodology for valuation on an arm’s length basis duly certified by a CA or a SEBI registered Merchant Banker or a practicing Cost Accountant. 

There is no specified internationally accepted pricing method under FEMA Act and rules. Discounted Case Flow (DCF) method, Market Multiple method, Comparable Transactions method, Net Asset Value (NAV) method, etc. are considered as internationally accepted pricing methodology due to its vast usage in international valuation field.

2. Companies Act

Under Companies Act, the valuation of shares and securities issued under preferential issue & Private Placement shall be done by a registered valuer registered with the IBBI. Hence, if you are issuing shares and securities under private placement then additional valuation report shall be obtained from registered valuer for Roc purpose. 

3. Income Tax

Under Income Tax Act, the valuation of shares must be done either by SEBI registered Merchant banker in case of DCF method & NAV method and by a Chartered Accountant in case of NAV method. CAs are barred under Income Tax Act for issuing valuation report under DCF method. 

Our View:

There are different kinds of valuation requirement in different statutes. Govt. has formalized the valuation profession by introducing Registered Valuer provisions in the Companies Act, 2013 and now we have enough of registered valuers in India for financial and securities asset class. Govt. should amend the provisions in existing Income Tax Act and FEMA Act to allow registered valuer for conducting valuation so that Companies need to take only one valuation certificate from registered valuer for one transaction.  

Manner of receipt of payment

An Indian Company issuing shares under FDI should receive the share subscription money through any of the following two modes:

• Inward remittance through normal banking channels;
• Debit to NRE / FCNR(B) / Escrow account maintained with an Authorized Dealer Bank in India. 

If the capital instruments are not issued by the Indian company within 60 days from the date of receipt of funds, then the funds are to be refunded within 15 days from date of completion of 60 days through the same channel as receipt of funds.

Reporting Guidelines

Company issuing shares and securities to foreigners / foreign companies are required to report the remittance and allotment in single form FC-GPR. RBI India has simplified the FDI reporting by Indian entities by consolidating different forms in one master form namely Single Master Form (SMF) on the Foreign Investment Reporting and Management System (FIRMS) portal. Only one form FC-GPR is to be filled after allotment within 30 days from date of issuance of shares. The form covers the details of the investee company, main business activity for which investment is made, percentage of FDI as allowed by the FDI policy, route of investment, date of issue of shares, details of foreign investor, type of security issued.

The form should be filed along with the following documents:

• Foreign Inward Remittance Certificate
• KYC of Investor
• Certificate from the Practicing Company Secretary certifying the compliance of FEMA Rules 
• Share valuation certificate by the Chartered Accountant or Merchant Banker or Cost Accountant for the shares issued to the foreign investor
• Board Resolution, List of allottees and other secretarial documents for the allotment of shares.

Conclusion

Issuance of capital instruments to foreigners and foreign companies involves complex exercise of documents, valuation, reporting and compliance of multiple laws. If it’s not done professionally, it will put companies into trouble and may attract hefty penalties and litigation. It is essential on the part of the company to hire a professional expert while making any allotment to the foreigners to comply with the applicable laws in letter and spirit. 

Introduction

There are 2 types of share in any company first is Equity shares or Common Stock and second is Preference shares or Preferred stock. Equity shareholder are considered as real owners of the Company as they have voting rights in a company while preference shareholders don’t have voting rights on all resolutions in ordinary circumstances. However, where the dividend in respect of a preference shares has not been paid for a period of two years or more, such class of preference shareholders shall have a right to vote on all the resolutions placed before the company. Preference shareholders are given priority in payment of dividend and repayment in case of winding up. The rate of dividend on equity shares fluctuate every year as it depends on the amount of profit available to the company. On the other hand, Preference Shares carry either fixed rate or fixed amount as dividend.

Issue of Preference Shares

Section 55 of the Companies Act, 2013 (‘Act’) read with Rule 9 of the Companies (Share Capital and Debentures) Rules, 2014 allows a Company to issue redeemable preference shares. Section 55(1) puts ban on issuance of irredeemable preference shares.

Term of Redeemable Preference Shares

According to Section 55(2) of the Act, a Company limited by shares may issue preference shares which are liable to be redeemed within a period not exceeding 20 years from the date of their issue. 

A company engaged in the setting up and dealing with of infrastructural projects may issue preference shares for a period exceeding 20 years but not exceeding 30 years, subject to the redemption of a minimum 10% of such preference shares per year from the 21^st year onwards or earlier, on proportionate basis, at the option of the preference shareholders.

The term "infrastructure projects" means the infrastructure projects specified in Schedule VI of the Companies Act, 2013. 

Pre-conditions for issue of Preference Shares

The Articles of Association of a Company must authorize the Company to issue preference shares. If the Articles of Association is not authorizing or it is silent, then it must be amended first. 

Conditions of Issue of Preference Shares

A Company having a share capital may issue preference shares subject to the following conditions, namely:-

• The issue of such shares has been authorized by passing a special resolution in the general meeting of the company. So the Company needs to take prior shareholders’ approval by way of Special Resolution.

• The Company, at the time of such issue of preference shares, has no subsisting default in the redemption of preference shares issued either before or after the commencement of this Act or in payment of dividend due on any preference shares.

• A Company issuing preference shares shall set out in the resolution, particulars in respect of the following matters relating to such shares, namely:-

• the priority with respect to payment of dividend or repayment of capital vis-a-vis equity shares;
• the participation in surplus fund;
• the participation in surplus assets and profits, on winding-up which may remain after the entire capital has been repaid;
• the payment of dividend on cumulative or non-cumulative basis.
• the conversion of preference shares into equity shares.
• the voting rights;
• the redemption of preference shares.

• The explanatory statement to be annexed to the notice of the general meeting pursuant to section 102 shall, inter-alia, provide the complete material facts concerned with and relevant to the issue of such shares, including-

• the size of the issue and number of preference shares to be issued and nominal value of each share;
• the nature of such shares i.e. cumulative or non - cumulative, participating or non - participating , convertible or non - convertible
• the objectives of the issue;
• the manner of issue of shares;
• the price at which such shares are proposed to be issued;
• the basis on which the price has been arrived at;
• the terms of issue, including terms and rate of dividend on each share, etc.;
• the terms of redemption, including the tenure of redemption, redemption of shares at premium and if the preference shares are convertible, the terms of conversion;
• the manner and modes of redemption;
• the current shareholding pattern of the company;
• the expected dilution in equity share capital upon conversion of preference shares.

Procedure for issue of Preference Shares

1. Check whether Articles of Association contains clause for the issuance of preference shares. If not, amend the AOA first.

2. Convene a Board Meeting for the following purposes:

• To increase Authorized preference share capital, if required;
• To approve issuance of preference shares; 
• To convene General Meeting for taking approval of shareholders.

3. Convene General Meeting for the following purposes:

• To increase Authorized preference share capital, if required.
• To approve issuance of preference shares by way of Special Resolution; 

4. File form MGT-14 with the Registrar of Companies within 30 days of approval of shareholders alongwith the Copy of Special Resolution and Explanatory Statement.

5. Take Application Money of preference shares through banking channels

6. Allot the preference shares within 60 days from the date of receipt of application money. Allotment can be done by the board or any committee or even any authorized person.

7. File form PAS-3 within 15 days or 30 days as the case may be, from the date of allotment. 

8. Share Certificate i.e. (Form SH-1) is to be issued to the prospective preference shareholders within 2 months from date of allotment.

Redemption of Preference Shares

A company may redeem its preference shares only on the terms on which they were issued either:-

(a) at a fixed time or on the happening of a particular event; or

(b) any time at the company’s option; or

(c) any time at the shareholder’s option.

Only fully paid preference shares are allowed to be redeemed. 

Preference shares shall be redeemed out of the following: 

• Profits of the company which would otherwise be available for dividend or 
• Out of the proceeds of a fresh issue of shares made for the purposes of such redemption; Fresh issue of shares can be of equity as well as preference or can be both.

Redemption out of the profit of the Company

Where Preference shares are proposed to be redeemed out of the profits of the company, there shall, out of such profits, be transferred, a sum equal to the nominal amount of the shares to be redeemed, to a reserve, to be called the Capital Redemption Reserve Account, and the provisions of this Act relating to reduction of share capital of a company shall apply as if the Capital Redemption Reserve Account were paid-up share capital of the company.

The capital redemption reserve account may be applied by the company, in paying up unissued shares of the company to be issued to members of the company as fully paid bonus shares.

Premium on Redemption of Preference Shares

Premium payable on redemption of Preference shares must be provided out of the profits of the Company only. However, in following two cases, premium payable on Preference shares can be provided out of Securities Premium Account in addition to P&L Account:

• Redemption of any preference shares issued on or before the commencement of this Act. 
• If Company does not comply with the accounting standards. 

Where Company unable to redeem Preference Shares

Where a Company is not in a position to redeem any preference shares or to pay dividend, if any, on such shares in accordance with the terms of issue then such shares shall be referred as ‘unredeemed preference shares’.

A Company may, with the consent of the holders of 3/4^th in value of such preference shares and with the approval of the National Company Law Tribunal (NCLT) on a petition made by it in this behalf, issue further redeemable preference shares equal to the amount due, including the dividend thereon, in respect of the unredeemed preference shares, and on the issue of such further redeemable preference shares, the unredeemed preference shares shall be deemed to have been redeemed. The NCLT shall order the redemption forthwith of preference shares held by such persons who have not consented to the issue of further redeemable preference shares.

Conclusion

Preference shares are perfect instrument for a Company which is looking for an investment without diluting voting rights and control over the Company. At the same time, it offers the preference shareholders a fixed income and priority of dividend and repayment. 

Introduction

Limited Liability Partnership (“LLP”) is a hybrid entity with the advantages of a company and operational flexibility of a partnership. Since the introduction of Limited Liability Partnership Act, 2008 and over a period of time, it has become a popular form of business entity in India owing to its simplified structure, minimal compliances, tax benefits etc. LLPs provides not only the benefits which are available to the companies like Separate Legal Identity, Limited Liability, Perpetual Existence etc. but also provides other exclusive benefits like No Dividend Distribution Tax (DDT), No Audit requirement for small LLPs, Lesser compliances and records maintenance etc. etc.

Foreign Investment in LLP

A clear permissible foreign investment without any government approvals is key factor while choosing a corporate entity by the entrepreneurs. Prior to 2015, FDI under automatic route was allowed only in Indian Companies. Foreign Investment in Limited Liability Partnership required prior approval of the Government. Since 2015, Government of India has amended its FDI policy and allowed foreign investment in LLP under automatic approval route subject to some conditions. 

Regulatory Framework 

• Limited Liability Partnership Act, 2008.
• Foreign Exchange Management Act, 1999.
• Foreign Exchange Management (Non-debt Instruments) Rules, 2019.

Foreign Direct Investment or Foreign Investment in LLP?

It is the Foreign Investment and not Foreign Direct Investment which allowed in LLP. FDI is always meant investment in equity instrument and hence in LLPs there is no equity instruments. Let’s check the definition of both under FEMA (NDI) Rules, 2019.

Foreign Direct Investment (FDI)

As per FEMA (NDI) Rules, 2019, “FDI” or “Foreign Direct Investment” means investment through equity instruments by a person resident outside India in an unlisted Indian company; or in 10% or more of the post issue paid-up equity capital on a fully diluted basis of a listed Indian company. Hence, investment in equity instruments only amounts to FDI.

Foreign Investment (FI)

As per FEMA (NDI) Rules, 2019, “Foreign Investment” means any investment made by a person resident outside India on a repatriable basis in equity instruments of an Indian company or to the capital of a LLP. Hence, every investment in LLP by a person resident outside India on a repatriable basis amounts to Foreign Investment. Here, investment shall mean capital contribution or acquisition or transfer of profit shares.

Repatriable v.s Non repatriable basis

As per FEMA (NDI) Rules, 2019, “Investment on repatriation basis” means an investment, sale or maturity proceeds of which are net of taxes, eligible to be repatriated out of India whereas Investment on Non-repatriation basis means an investment, sale or maturity proceeds of which are net of taxes, not eligible to be repatriated out of India. It has to be in India after sale or liquidation of investments. 

It is important to ascertain by Non-resident Indian (NRI) or Overseas Citizen of India (OCI), at the time of making investment, as to whether investment in repatriable or non repatriable basis. If it is non repatriable basis, then entire provisions of FEMA acts and rules are not applicable to such investments and such investments are treated at par with domestic investments. 

Eligible Investor 

As per Rule 6 of FEMA (NDI) Rules, 2019, a person resident outside India, other than a citizen of Bangladesh or Pakistan or an entity incorporated in Bangladesh or Pakistan, may invest either by way of capital contribution or by way of acquisition or transfer of profit shares of an LLP, in the manner and subject to the terms and conditions specified in Schedule VI (Investment in a Limited Liability Partnership)

Foreign investment under Automatic route

A person resident outside India (other than a citizen of Pakistan or Bangladesh) or an entity incorporated outside India (other than an entity incorporated in Pakistan or Bangladesh), not being a Foreign Portfolio Investor (FPI) or a Foreign Venture Capital Investor (FVCI), may contribute to the capital of an LLP operating in sectors or activities where foreign investment up to 100% is permitted under automatic route and there are no FDI linked performance conditions. 

So, broadly, Foreign Investment in LLPs is permitted subject to the following conditions:

• LLPs operating in sectors/activities where 100% FDI is allowed, through the automatic route and
• there are no FDI linked performance conditions.

Conversion of Company into LLP wherein there is already FDI in Company

A company having foreign direct investment, engaged in a sector where foreign investment up to 100% is permitted under the automatic route and there are no FDI linked performance conditions, may be converted into a LLP under the automatic route.

Conversion of LLP into Company wherein there is already FI in LLP

A LLP having foreign investment, engaged in a sector where foreign investment up to 100% is permitted under the automatic route and there are no FDI linked performance conditions, may be converted into a company under the automatic route. 

Valuation requirements

Investment in a LLP either by way of capital contribution or by way of acquisition or transfer of profit shares, should not be less than the fair price worked out as per any valuation norm which is internationally accepted or adopted as per market practice (hereinafter referred to as “fair price of capital contribution or profit share of a LLP”) and a valuation certificate to that effect shall be issued by the Chartered Accountant or by a practising Cost Accountant or by an approved valuer from the panel maintained by the Central Government. 

In case of transfer of capital contribution or profit share from a person resident in India to a person resident outside India, the transfer shall be for a consideration not less than the fair price of capital contribution or profit share of a LLP. 

In case of transfer of capital contribution or profit share from a person resident outside India to a person resident in India, the transfer shall be for a consideration which is not more than the fair price of the capital contribution or profit share of an LLP. 

Downstream Investment 

An Indian Company or an LLP, having foreign investment, will be permitted to make downstream investment in another company or LLP in sectors in which 

• 100% FDI is allowed under automatic route and 
• there are no FDI linked performance conditions.

RBI Reporting Requirements

LLPs which are receiving Foreign Investment in the form of capital contribution shall submit a Single Master Form (SMF) within a period of 30 days from the date of receipt of funds in form LLP(I) to the regional office of the Reserve Bank of India (RBI) under whose jurisdiction the registered office of the LLP is situated, by way of online filing in the RBI’s website https://firms.rbi.org.in/firms/

Any disinvestment or transfer of capital contribution or profit share between a resident and non-resident or vice versa shall be reported to RBI within a period of 60 days from the date of transfer in form LLP(II) to the regional office of the Reserve Bank of India (RBI) under whose jurisdiction the registered office of the LLP is situated, by way of online filing in the RBI’s website https://firms.rbi.org.in/firms/ 

Conclusion

Owing to flexibility in its structure and operation, LLPs form of organization is growing fast in India, especially in services sector. Globally, LLPs are the most preferred form of doing business, but in India it is still considered as a new kind of entity with new law. But with this step of liberalization of substituting the approval route with automatic route for FDI in LLP and permitting LLPs for downstream investment, the Government of India has taken an approach to enable LLPs to roll over the corporate operating in India to tap foreign investments. This move will also encourage more partnership firms and companies to convert into LLPs due to the tax benefit and flexibility it will offer. Thus, amendment in FDI policy is a welcome move, LLPs seems to have hay-days ahead.

Introduction

Shareholders in a listed company are classified under two broad categories, i.e. those that belong to the promoter/promoter group and those shareholders who are members of the public with no formal relationship with the promoter/promoter group. 

According to regulation 2(00) of SEBI (Issue of Capital and Disclosure Requirements) Regulation, 2018, “promoter” shall include a person:

• who has been named as such in a draft offer document or offer document or is identified by the issuer in the annual return referred to in section 92 of the Companies Act, 2013; or
• who has control over the affairs of the issuer, directly or indirectly whether as a shareholder, director or otherwise; or
• in accordance with whose advice, directions or instructions the board of directors of the issuer is accustomed to act. Provided that this clause shall not apply to a person who is acting merely in a professional capacity.

It is to note that a financial institution, scheduled bank, foreign institutional investor and mutual fund shall not be deemed to be a Promoter / Promoter Group merely by holding 10% or more of the equity share capital of the issuer. However, they would be treated as Promoter / Promoter Group for the subsidiaries or companies promoted by them or for the mutual fund sponsored by them.

Why there is need for re-classification?

SEBI Takeover Code and Insider Trading Regulation requires promoter to comply with various Transitional, Event Based, Annual and Pledge Disclosures with Target Company and Stock Exchanges including dealings restrictions during the period of closure of trading window. So promoters needs to comply with various regulations even if, in some cases, he is not controlling the affairs of the company or sold majority of its shares or has no direct or indirect relationship with the company. This requires re-classification from promoter to public so as to avoid compliances under various SEBI regulations applicable to promoters and promoter group. 

Current Regulatory framework for re-classification

Regulation 31A of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 lays down conditions pursuant to which promoters/promoter group of a listed entity can be reclassified as public shareholders. Such re-classification of the status of any person as a promoter or public shall be permitted by the stock exchanges only upon receipt of an application from the listed entity along with all relevant documents subject to compliance with conditions specified in these regulation.

Pre-conditions for re-classification of promoter or promoter group

The following are the pre-condition for re-classification of promoter or promoter group. The promoters or promoter group seeking re-classification shall not: 

1. together, hold more than 10% of the total voting rights in the listed entity;
2. exercise control over the affairs of the listed entity directly or indirectly; 
3. have any special rights with respect to the listed entity through formal or informal arrangements including through any shareholder agreements; 
4. be represented on the board of directors (including not having a nominee director) of the listed entity; 
5. act as a key managerial person in the listed entity; 
6. be a ‘wilful defaulter’ as per the Reserve Bank of India Guidelines; 
7. be a fugitive economic offender. 

Pre-conditions for listed entity in which promoter or promoter group seeking re-classification

The listed entity shall:

1. be compliant with the requirement for minimum public shareholding as required under regulation 38 of LODR regulations; 
2. not have trading in its shares suspended by the stock exchanges; 
3. not have any outstanding dues to the Board, the stock exchanges or the depositories. 

Step wise process for re-classification 

1. The promoters seeking re-classification shall make a request for re-classification to the listed entity which shall include rationale for seeking such re-classification and how the conditions specified above are satisfied.

2. The board of directors of the listed entity shall analyze the request and place the same before the shareholders in a general meeting for approval along with the views of the board of directors on the request. There shall be a time gap of at least 3 months but not exceeding 6 months between the date of board meeting and the shareholder’s meeting considering the request of the promoters seeking re-classification.

3. The request of the promoters seeking re-classification shall be approved in the general meeting by an ordinary resolution in which the promoters seeking re-classification and persons related to the promoters seeking re-classification shall not vote to approve such re-classification request. 

Waiver of Shareholders approval

In the case of M/s. Alembic Pharmaceuticals Limited, Alembic sought guidance from SEBI regarding requirement of shareholder approval for reclassification of shareholding from promoter group to public category. Their submission was based on the fact that 5 out of 25 persons who were part of the promoter group were desirous of reclassification of their shareholding from promoter group to public category who were not directly or indirectly connected with any activity of Alembic as they were senior citizens leading their lives and occupations independently. Other reasons given for reclassification were that such persons never held any position of key managerial personnel and they did not have any special rights through formal or informal arrangements with Alembic or any person in the promoter group, etc. In this matter, SEBI clarified that shareholder’s approval is not required for reclassification of shareholding from promoter group to public category. In another case of M/s. Gujarat Ambuja Exports Limited, SEBI had exempted the company from obtaining approval of shareholder for reclassification of one its promoters on the similar grounds.

4. Once shareholders approves the request for re-classification, an application for re-classification is required to be made to the stock exchanges by the listed entity within 30 days from the date of approval of shareholders in general meeting.

5. Stock exchanges will approve the request based on the application submitted by the listed entities. Where entities listed on more than one stock exchange, the concerned stock exchanges shall jointly decide on the application. 

Conditions to be complied after re-classification

The promoters seeking re-classification, subsequent to re-classification as public, shall comply with the following conditions:

• S/he shall continue to comply with the following conditions at all times from the date of such re-classification failing which, he shall automatically be reclassified as promoter/ persons belonging to promoter group, as applicable;

• together, hold more than 10% of the total voting rights in the listed entity;
• exercise control over the affairs of the listed entity directly or indirectly; 
• have any special rights with respect to the listed entity through formal or informal arrangements including through any shareholder agreements.

• S/he shall comply with the following conditions for a period of not less than 3 years from the date of such re-classification failing which, he shall automatically be reclassified as promoter/persons belonging to promoter group, as applicable.

• be represented on the board of directors (including not having a nominee director) of the listed entity; 
• act as a key managerial person in the listed entity. 

Proposed amendments

SEBI on 23^rd November, 2020 has issued a Consultation Paper on re-classification of Promoter/Promoter Group entities. At present SEBI has been granting relaxations from the requirements under regulation 31A of the LODR regulations on a case to case basis to promoters who have found reclassification difficult under current regulatory regime.  The said paper has been issued on the basis of the recommendations of the Primary Market Advisory Committee (‘PMAC’) of SEBI in order to regularise the provisions relating to reclassification and minimise the need for providing relaxation on case-to-case basis.

Relaxing the threshold of maximum voting rights 

At present Regulation 31A (3) (b) (i) of LODR regulations provide that promoter/persons belonging to promoter group seeking re-classification should not together hold more than 10% of the total voting rights in the listed entity. The Consultation Paper proposes to increase the threshold of 10% to 15%, to enable those promoters who have shareholding of less than 15% but are no longer involved in the day-to-day control of the listed entity to opt-out from being classified as promoters, without having to reduce their share-holding.

Reduction in time period between board and shareholders meeting

As mentioned above, Regulation 31A (3) (a) (ii) provides that the time gap between the meeting of the board at which the proposal for reclassification was accepted and the meeting of the shareholders, seeking approval for the same should be at least 3 months. The rationale behind the same was to give adequate time to the shareholders for considering the request of the promoter. However, time gap 3 months resulted in an increase in the total time taken in the process. In order to increase both cost and time efficiency, the Consultation Paper proposes to reduce the minimum time gap from 3 months to 1 month.

Introduction

Shareholders in a listed company are classified under two broad categories, i.e. those that belong to the promoter/promoter group and those shareholders who are members of the public with no formal relationship with the promoter/promoter group. 

According to regulation 2(00) of SEBI (Issue of Capital and Disclosure Requirements) Regulation, 2018, “promoter” shall include a person:

• who has been named as such in a draft offer document or offer document or is identified by the issuer in the annual return referred to in section 92 of the Companies Act, 2013; or
• who has control over the affairs of the issuer, directly or indirectly whether as a shareholder, director or otherwise; or
• in accordance with whose advice, directions or instructions the board of directors of the issuer is accustomed to act. Provided that this clause shall not apply to a person who is acting merely in a professional capacity.

It is to note that a financial institution, scheduled bank, foreign institutional investor and mutual fund shall not be deemed to be a Promoter / Promoter Group merely by holding 10% or more of the equity share capital of the issuer. However, they would be treated as Promoter / Promoter Group for the subsidiaries or companies promoted by them or for the mutual fund sponsored by them.

Why there is need for re-classification?

SEBI Takeover Code and Insider Trading Regulation requires promoter to comply with various Transitional, Event Based, Annual and Pledge Disclosures with Target Company and Stock Exchanges including dealings restrictions during the period of closure of trading window. So promoters needs to comply with various regulations even if, in some cases, he is not controlling the affairs of the company or sold majority of its shares or has no direct or indirect relationship with the company. This requires re-classification from promoter to public so as to avoid compliances under various SEBI regulations applicable to promoters and promoter group. 

Current Regulatory framework for re-classification

Regulation 31A of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 lays down conditions pursuant to which promoters/promoter group of a listed entity can be reclassified as public shareholders. Such re-classification of the status of any person as a promoter or public shall be permitted by the stock exchanges only upon receipt of an application from the listed entity along with all relevant documents subject to compliance with conditions specified in these regulation.

Pre-conditions for re-classification of promoter or promoter group

The following are the pre-condition for re-classification of promoter or promoter group. The promoters or promoter group seeking re-classification shall not: 

1. together, hold more than 10% of the total voting rights in the listed entity;
2. exercise control over the affairs of the listed entity directly or indirectly; 
3. have any special rights with respect to the listed entity through formal or informal arrangements including through any shareholder agreements; 
4. be represented on the board of directors (including not having a nominee director) of the listed entity; 
5. act as a key managerial person in the listed entity; 
6. be a ‘wilful defaulter’ as per the Reserve Bank of India Guidelines; 
7. be a fugitive economic offender. 

Pre-conditions for listed entity in which promoter or promoter group seeking re-classification

The listed entity shall:

1. be compliant with the requirement for minimum public shareholding as required under regulation 38 of LODR regulations; 
2. not have trading in its shares suspended by the stock exchanges; 
3. not have any outstanding dues to the Board, the stock exchanges or the depositories. 

Step wise process for re-classification 

1. The promoters seeking re-classification shall make a request for re-classification to the listed entity which shall include rationale for seeking such re-classification and how the conditions specified above are satisfied.

2. The board of directors of the listed entity shall analyze the request and place the same before the shareholders in a general meeting for approval along with the views of the board of directors on the request. There shall be a time gap of at least 3 months but not exceeding 6 months between the date of board meeting and the shareholder’s meeting considering the request of the promoters seeking re-classification.

3. The request of the promoters seeking re-classification shall be approved in the general meeting by an ordinary resolution in which the promoters seeking re-classification and persons related to the promoters seeking re-classification shall not vote to approve such re-classification request. 

Waiver of Shareholders approval

In the case of M/s. Alembic Pharmaceuticals Limited, Alembic sought guidance from SEBI regarding requirement of shareholder approval for reclassification of shareholding from promoter group to public category. Their submission was based on the fact that 5 out of 25 persons who were part of the promoter group were desirous of reclassification of their shareholding from promoter group to public category who were not directly or indirectly connected with any activity of Alembic as they were senior citizens leading their lives and occupations independently. Other reasons given for reclassification were that such persons never held any position of key managerial personnel and they did not have any special rights through formal or informal arrangements with Alembic or any person in the promoter group, etc. In this matter, SEBI clarified that shareholder’s approval is not required for reclassification of shareholding from promoter group to public category. In another case of M/s. Gujarat Ambuja Exports Limited, SEBI had exempted the company from obtaining approval of shareholder for reclassification of one its promoters on the similar grounds.

4. Once shareholders approves the request for re-classification, an application for re-classification is required to be made to the stock exchanges by the listed entity within 30 days from the date of approval of shareholders in general meeting.

5. Stock exchanges will approve the request based on the application submitted by the listed entities. Where entities listed on more than one stock exchange, the concerned stock exchanges shall jointly decide on the application. 

Conditions to be complied after re-classification

The promoters seeking re-classification, subsequent to re-classification as public, shall comply with the following conditions:

• S/he shall continue to comply with the following conditions at all times from the date of such re-classification failing which, he shall automatically be reclassified as promoter/ persons belonging to promoter group, as applicable;

• together, hold more than 10% of the total voting rights in the listed entity;
• exercise control over the affairs of the listed entity directly or indirectly; 
• have any special rights with respect to the listed entity through formal or informal arrangements including through any shareholder agreements.

• S/he shall comply with the following conditions for a period of not less than 3 years from the date of such re-classification failing which, he shall automatically be reclassified as promoter/persons belonging to promoter group, as applicable.

• be represented on the board of directors (including not having a nominee director) of the listed entity; 
• act as a key managerial person in the listed entity. 

Proposed amendments

SEBI on 23^rd November, 2020 has issued a Consultation Paper on re-classification of Promoter/Promoter Group entities. At present SEBI has been granting relaxations from the requirements under regulation 31A of the LODR regulations on a case to case basis to promoters who have found reclassification difficult under current regulatory regime.  The said paper has been issued on the basis of the recommendations of the Primary Market Advisory Committee (‘PMAC’) of SEBI in order to regularise the provisions relating to reclassification and minimise the need for providing relaxation on case-to-case basis.

Relaxing the threshold of maximum voting rights 

At present Regulation 31A (3) (b) (i) of LODR regulations provide that promoter/persons belonging to promoter group seeking re-classification should not together hold more than 10% of the total voting rights in the listed entity. The Consultation Paper proposes to increase the threshold of 10% to 15%, to enable those promoters who have shareholding of less than 15% but are no longer involved in the day-to-day control of the listed entity to opt-out from being classified as promoters, without having to reduce their share-holding.

Reduction in time period between board and shareholders meeting

As mentioned above, Regulation 31A (3) (a) (ii) provides that the time gap between the meeting of the board at which the proposal for reclassification was accepted and the meeting of the shareholders, seeking approval for the same should be at least 3 months. The rationale behind the same was to give adequate time to the shareholders for considering the request of the promoter. However, time gap 3 months resulted in an increase in the total time taken in the process. In order to increase both cost and time efficiency, the Consultation Paper proposes to reduce the minimum time gap from 3 months to 1 month.

Striking off the name of defunct Limited Liability Partnership (LLP) is the simplest way to close the LLP with no assets and no liabilities. In this method, designated partners are need to first settle the accounts of LLP by selling the assets, if any and pay off the liabilities, if any. Based on nil assets and liabilities and based on no objections from the general public, Registrar will close the LLP. It is pertinent to note that strike off is not the legal end of the LLP just like winding up. Designated partners have to file Indemnity, for security of future liabilities, while making an application for strike off. In case any future liabilities or obligations arise, designated partners are personally liable for that which is not the case of winding up. So it is always advisable to first set off all kinds of liabilities, disputes etc. in order to save oneself from future liabilities. 

Legal Provisions

Rule 37 of the Limited Liability Rules, 2009 deals with the striking off name of Defunct LLP. Defunct means those LLPs which are not functioning or not operating. Hence, it is pre-requisite that LLP must be defunct for at least 1 year before applying for closure. It provides that “where a limited liability partnership is not carrying on any business or operation for a period of one year or more, such LLP can make an application to the Registrar, with the consent of all partners of the limited liability partnership for striking off its name from the register“.

Limited Liability Partnership (Amendment) Rules, 2017 added sub-rule 1A after sub-Rule 1 of Rule 37 as follows:

The LLP shall file overdue returns in Form 8 and Form 11 up to the end of the financial year in which it ceased to carry on its business or commercial operations before filing Form 24;

Enclose along with Form 24,—

1. a statement of account disclosing nil assets and nil liabilities, certified by a Chartered Accountant in practice made up to a date not earlier than 30 days of the date of filing of Form 24;

2. an affidavit signed by the designated partners, either jointly or severally, to the effect:

i. that the Limited Liability Partnership has not commenced business or where it commenced business, it ceased to carry on such business from ………….(dd/mm/yyyy);

ii. that the limited liability partnership has no liabilities and indemnifying any liability that may arise even after striking off its name from the Register;

iii. that the Limited Liability Partnership has not opened any Bank Account and where it had opened, the said bank account has since been closed together with certificate(s) or statement from the respective bank demonstrating closure of Bank Account;

iv. that the Limited Liability Partnership has not filed any Income-tax return where it has not carried on any business since its incorporation, if applicable. 

3. a copy of the acknowledgement of the latest Income-tax return; 

4. copy of the initial limited liability partnership agreement, if entered into and not filed, along with changes thereof in cases where the Limited Liability Partnership has not commenced business or commercial operations since its incorporation. 

Documents required for closure of LLP

The following documents are required for closure of LLP –

• Detailed Application for Closure of Limited Liability Partnership(LLP);
• Affidavit executed either individually or jointly by all the Partners;
• Consent of all the partners;
• Statement of accounts showing Nil assets and liabilities certified by Chartered Accountant in practice not older than 30 days from the date of filing of an application;
• A copy of acknowledgement of latest Income Tax Return; 
• Initial LLP Agreement along with all supplementary agreements, if any.

Process of closure of LLP or Strike off of an LLP

• Close the Bank Account of the LLP;
• Sell the assets, if any and pay off the liabilities, if any;
• Take the written consent of all partners for strike off;
• Drafting of all the requisite documents for closure of LLP;
• Filing of form 24 with the Registrar.

Once, the E-form 24 is filled by the LLP to concerned jurisdictional Registrar, it has to wait for approval from the Registrar as to whether all documents attached in forms are proper or not. Registrar may ask for any additional documents for his satisfaction. Once, Registrar is satisfied, he shall send name of the LLP for publication in official gazette asking to raise objections from general public. If no objection is received, Registrar will strike off the name of LLP from its register.

Some FAQs with regard to Strike off

1. Which date one should reckon for cessation of business?

The date of cessation of commercial operation is the date from which the Limited Liability Partnership ceased to carry on its revenue generating business and the transactions such as receipt of money from debtors or payment of money to creditors, subsequent to such cessation will not form part of revenue generating business.

2. Whether up to date annual filing is required for closure of LLP?

As per LLP Amendment Rules, 2017, annual filing forms like form 8 and 11 is required to be filled up to the date of financial year in which LLP ceased to carry on business or operation. For e.g: LLP ceased the business on 31^st August, 2018 then form 8 and 11 needs to filled for F.Y upto 2018-19. 

3. What if Initial LLP Agreement is not filled?

As per LLP Amendment Rules, 2017, initial agreement is not filled and LLP is inoperative since incorporation then application for strike off is allowed if LLP Agreement is filled at the time of strike off but if LLP has commenced business and LLP Agreement is not filled then LLP must file LLP Agreement in form 3 before filing application for strike off. 

4. What if Income Tax return is not filled?

As per LLP Amendment Rules, 2017, Income tax return is required to be filled up to the date of financial year in which LLP ceased to carry on its business or operation. If LLP is not commenced business since incorporation then filing of IT return is not required and LLP can directly apply for strike off.