DATA & REPORTS

Access to Capital

1. Capital is essential for a business to conduct its operations and to grow. In a competitive and fast changing business environment, it is critical for business to raise capital of the right amount, in the right form, at the right time and at the right price. There is a need, therefore, for flexibility to manage capital dynamically and to enable reallocation of capital between businesses. In order to enable speedier access to capital and enable effective capital management, there is a need to enable use of a wide array of capital instruments in the backdrop of streamlined statutory and regulatory framework. Such a framework should allow greater flexibility for issuers meeting defined criteria and allow a functioning market for acquisition of corporate control.

2. However matters relating to management and maintenance of capital are equally important. The law should, therefore, address ownership rights effectively by enabling proper registration of ownership, transfer of shares, exercise of voting rights, equitable sharing in the profits of the company and participation in decision making on the basis of reporting requirements that enable transparency of financial operations by the corporates. At the same time, it should facilitate disclosure of actual control structures and prohibition of insider trading as well as management entrenchment. We feel that international best practices should be adapted to the Indian situation while enabling a framework that ensures credibility of corporate operations in the minds of the stakeholders.

Regulation of Financial Services

3. In some countries, separate enactment has been brought about to regulate certain aspects pertaining to financial aspects of corporate operation, such as the Financial Services Act, 1986 of the UK. The objective of such legislation could be discerned as consolidation of various provisions relating to securities, standardization of rules concerning civil and criminal liability for omissions and mis-statements in offer documents as also bringing the content of all such documents within a single set of legal provisions. The purpose was to enable the Government to set out the procedural aspects and the information disclosures to be provided in the form of regulations and to provide a mechanism of keeping this up to date through secondary legislation. In India, this framework is provided through the Companies Act, 1956, the Securities Contract (Regulation) Act (SCRA) and the SEBI Act. It is not desirable to add to legislative complexity and coordination issues by adding yet another enactment to the list. Therefore, as the Government takes up suitable revisions of Companies Act, 1956, we do not find any pressing requirement for a separate Financial Services Act.

Streamlining regulatory framework

4. There is however a case for harmonization of operation of various Government entities in the financial aspects of corporate operation. We feel that a re-orientation of the Companies Act itself can enable this. While it would be essential to provide legislative basis for the core governance principles relating to maintenance and management of capital by the corporate keeping in view the interests of the shareholders and creditors, the processes in the public domain subsequent to a company making a public issue of capital are complex and require to be regulated in context of the ever changing and growing capital market. The capital market regulator has a significant role to play in this regard. Therefore there is no need for the Companies Act to go into such procedural details apart from prescriptions that enable proper administration of the Companies Act. Instead the Companies Act should have enabling provisions that allow such procedural aspects to be taken into account as prescribed by the capital market regulator. It should be possible to enable such harmony of the statute with pronouncements made by regulators or stock exchanges through their regulations/listing agreements by requiring that such regulations be read with references in them to the provisions in the Companies Act.

5. The Committee is of the view that the basic framework for governance issues relating to maintenance and management of capital, the rights flowing from ownership of such capital and regulation of various stakeholders in a corporate entity with regard to capital should be addressed in the Companies Act. However, the capital market regulator has an important role to play in regulating the role of the corporate issuers and the investors as well as that of the financial intermediaries, once a corporate enters the capital market. While there is no requirement for the capital markets regulator to go into internal governance processes of the corporate, matters which are within regulation making powers of such regulator, need not be subsumed within the rule making powers under the Company Law. The regulator should assess the liability of the corporate in terms of the commitments made by it in the public domain while seeking investors’ participation. The legal framework should provide a mechanism for dove-tailing of the substantive provisions of the law with the detailed regulations which may be issued by the market regulator.

6. All the instruments of State intervention, the Ministry of the Government or the Regulator constituted by the Government under any statutory instrument fall within the Government domain. It is necessary for the Government to enable necessary coordination in the matter. The presence of the Regulator does not also mean that the State is absolved of all responsibility in that particular domain. The experience in the capital markets in the 1990s, which witnessed two major stock market scams are a case in point. The recommendations of the Joint Parliamentary Committee also highlight the need for effective coordination in this regard.

7. We feel that the regulatory gaps cannot be plugged by carving out of domain. Rather, in a fluid and complex situation this may create further gaps that may be exploited by unscrupulous elements. Instead such gaps are to be dealt with by harmonious interpretation and mutual capacity building by the Government and its Regulatory agencies. At the same time, respective enactments clearly specify the jurisdiction of each agency. There is no requirement for providing for concurrent jurisdiction since such arrangements result in confusion in terms of action to be taken by each. Therefore, the Committee recommends that simultaneous to the harmonious regulatory approach providing for space to each regulator to operate effectively in their domain, provisions in the Companies Act allowing multiple jurisdictions may be done away with. The Committee is of the view that this approach would not restrict the functioning of the capital market regulator in any manner but would focus its efforts more meaningfully on capital market issues. Further, the Committee is of the view that the regulatory approach should not result in an intrusive system of controls or revert back to the regime administered by the Controller of Capital Issues that existed prior to the establishment of SEBI.

8. We are also of the view that there is a need for different agencies to interact with each other more comprehensively in operational matters to enable such coordination. Interaction between SEBI and MCA need not be limited to Central Monitoring Committee on Vanishing Companies or representation on the SEBI Board, but may be augmented further through institutional mechanisms that enable consultation on various issues on a regular basis. This will enable the Government to present a common framework to the corporate sector, thereby resolving regulatory uncertainty.

Simplifying approval requirements

9. It is felt that at present there are multiple approval requirements for raising capital by companies. Such companies have to expend time and energy in obtaining approvals and completing the administrative processes involved. It is recognized that issue of capital by various classes of companies may have to be overseen by the concerned regulator such as SEBI (in the case of listed companies) or the RBI (in the case of Banking and NBFCs). In such cases, oversight by such Regulators is also essential. However, this process should be made time bound with introduction of the concept of deemed approval. This should equally apply to administrative processes such as the filing and registration of documents with the ROCs.

10. It is also felt that various time limits prescribed in the Act for various steps involved in raising of capital should be rationalized and reduced wherever possible. The communication channels available to the corporates for the purpose of dissemination of information should also be augmented by allowing use of electronic media in the process of issue of capital. To sum up :- (a) Basic framework and provisions relating to issue and management of capital, rights flowing from ownership of capital and regulation of various stakeholders with regard to capital should be addressed in the Companies Act. (b) Capital market regulator should work out the details through regulations governing the operation of the capital market. There should be suitable dove-tailing between substantive provisions of the Act and the regulations of the Capital Market Regulator. (c) Timeframe prescribed under law for process of issue of capital should be rationalized and reduced. It should be brought at par with international practices. (d) The processes on the part of regulators and other administrative bodies should be made time bound with the introduction of the concept of Deemed Approval. (e) Corporate issuers of capital should also be allowed to use electronic media in the process of issue of capital.

Costs of raising capital- Shelf Prospectus

11. The issue of capital through release of a prospectus involves various processes that are time consuming and costly. Such processes also have to be repeated if the corporate requires to access capital again. It should be possible to avoid such costs. Presently the Companies Act recognizes the concept of Shelf Prospectus which is applicable for a period of time which is specified in the Act. At the time of subsequent issue only specified material changes need to be indicated. This concept may be extended to classes of companies as may be recommended by the capital market regulator from time to time, through issue of notification under the Act. It is advisable that suitable criteria for identifying such companies that may be acknowledged as Well Known Seasoned Issuers (WKSI), may be evolved by SEBI through regulation in respect of corporates which raise capital more frequently. Such corporates may be allowed to provide a Main Document in a year and thereafter only incremental changes should be reportable by them every time they access the market during the currency of shelf-prospectus.

Rights Issues

12. At present making a Rights Issue takes three months to be completed thus imposing a delay in the company accessing the funds raised through issue of rights. This process should be reviewed in comparison with international practices so that the process in the Indian context can be completed in a comparable time, keeping in view the requirement to afford a reasonable opportunity to the investors to exercise the right in Indian context. It may be possible to take up some of the activities simultaneously.

Deemed public offering

13. At present an offering made to 50 or more persons is deemed to be a Public Offer. Exemption is available from this requirement to NBFCs and PFIs. There is a rationale for providing exemption to rights issues by unlisted companies and issue of shares to employees of private companies from the operation of this provision. All listed companies seeking to raise capital should be subjected to the discipline of public issue along with the attendant regulation. In reckoning the 50 or more persons to whom the offer may be made, the Qualified Institutional Buyers (QIBs) may be excluded, since such entities would be informed investors and do not require the same level of detailed disclosures necessary for other investors. The capital market regulator may define QIBs appropriately. The Companies Act should acknowledge and take into account such categorization.

Tracking and Treasury Stocks

14.1 Traditionally, companies issue shares, which represent the capital of the company, as a whole. Shares issued represent combined value of all divisions of the company. However, financial performance of one or more business undertakings could be considered as a basis for providing the shareholders benefits of the profits of such business undertaking. However, this will require a special category of shares to be issued termed as ‘Tracking Shares’ .Such Tracking Shares would confer on the holders thereof a right to participate in the dividend declared by the company based on the recommendation of the Board of Directors of the company from the profits of that particular division. The public issue of such tracking shares including as to initial and continuing disclosures may have to be governed by such rules, regulations or guidelines as may be prescribed by the capital market regulator. The accounting treatment of tracking shares and matters connected therewith would be governed by accounting standards for the purpose. It is felt that this concept would increase the depth of capital market. However, this would require development of specific accounting standards for the purpose as also development of monitoring and control mechanism by the Stock Exchanges and the Capital Market Regulator.
14.2 Section 77A of the Companies Act, 1956 provides for buy-back of securities. Once bought back the relevant securities are to be extinguished. Internationally, however, a company can, subject to certain restrictions, hold bought back shares in itself under the name “Treasury Stock”. In other words, Treasury Stock are the shares which a company legitimately holds on its share register in its own name. The voting rights on these Treasury Stocks are suspended and company can not exercise voting rights on such shares. No distribution of dividend (including dividend during winding up) can be made to such stock.
14.3 There may be some advantage in this in raising of funds at a lower cost as and when need arises since public issue would be avoided. However, this concept could come in the way of operating market for takeover of management control which is an essential ingredient. Besides, monitoring and supervision requirements would be complex since such shares would not carry voting rights and would require to be tracked carefully by the market regulators. At this stage, this would impose additional regulatory complexity to prevent manipulation of shares, framing suitable accounting and taxation policies and recodifying the takeover code as a result of increase or decrease in shareholding.
14.4 The Committee felt that a number of preparatory actions were required before the concepts of Tracking Stocks and Treasury Stocks could be introduced, like regulations to be framed by capital market regulator, development of appropriate, specific accounting standards etc and therefore recommends that while an enabling provision for Tracking / Treasury Stocks could be incorporated in the new Law, actual introduction of Tracking and Treasury Stocks in the Indian Capital Markets will need to be preceded by the preparatory action referred to above and the instrument introduced only when the necessary framework is ready.

Targeted Buy back

15. The concept of targeted buyback, where an issuer may buyback shares from a subset of shareholders on a preferential basis was examined by the Committee. The facility is used in some countries (a) effecting a block repurchase from large shareholders (b) effecting purchases from employees (c) thwarting takeover attempts. This concept is not yet addressed in Indian Law. This has been provided for in certain countries like USA, Australia etc. The Committee feels that this concept could come in the way of proper operation of a competitive market for management control which is an essential ingredient of the Capital Market. Therefore, the Committee does not find this mechanism to be appropriate at this stage.

Perpetual Preference shares

16. At present preference shares can be issued for a maximum period of 20 years. Since many companies may like to raise capital of a quasi equity and permanent nature on account of long gestation project capital requirements, it is felt that the concept of perpetual preference shares or preference shares of higher tenure may be permitted in the new Law. There should be flexibility to the company to revise the tenure by obtaining prescribed approval of shareholders for variation of rights. The Committee recommends that companies should be permitted to issue perpetual/ longer duration preference shares and that returns from such shares may be linked to market benchmark or reset periodically. In case the subscriber of perpetual preference shares wants to redeem his shares prematurely, necessary enabling provisions to redeem the shares by the company up to a certain percentage of preference shares on an annual basis may be provided. This may be done through “call/put option mechanism”.

Redemption and Dividend on Cumulative Redeemable Preference Shares

17.1 If a company is redeeming cumulative preference shares by issue of fresh capital, the company should be permitted to raise necessary amounts through such issues to cover the arrears of preference dividend apart from the amount required for redemption of preference shares. This can be enabled whether or not the company had made adequate profits during the relevant financial year in which redemption is proposed to be carried out with a condition that interest on borrowed capital is paid.
17.2 The Committee further noted that the existing framework resulted in certain ambiguities in respect of arrears of cumulative preference dividend on conversion of such preference shares into equity shares, amalgamation/merger of a company having such arrears of preference dividend. The Committee is of the view that such ambiguities need to be resolved in a manner that the rights of holders of such shares, relatable to the period of such holdings are adequately protected.

Capital Reduction

18. In the existing Act the reduction of capital has to be approved by shareholders by way of special resolution followed by the sanction of the High Court. This is a time consuming process. In order to provide flexibility and time saving, it is appropriate that institutional mechanism such as the courts / proposed National Company Law Tribunal (NCLT) may decide on such issues in a time-bound manner with due safeguards for interests of creditors.

Disclosure Norms

19.1 In regard to access to Capital, there is a need for proper disclosure at every stage so as to make the business activities more transparent and investor friendly. There is a need for identification and disclosure of the critical accounting estimates and principles. Shareholders should be kept informed about all material facts which should also get posted on the website. There should be proper disclosure about the shareholding structure from time to time. Such disclosures should clearly reveal actual control structures through direct or indirect shareholding and should be made part of the Annual Report of the company. Thus, reduced regulatory intervention should be complemented by increased disclosure for effective capital market supervision.
19.2 The companies should be allowed to raise capital so long as they provide true and correct information to investors and the regulators. There could be flexibility to raise capital by making adequate disclosures. However non compliance with disclosure norms or raising money fraudulently should be subject to strict penalty regime

Access to Public Deposits

20.1 It was brought to the notice of the Committee that a number of complaints by depositors in respect of deposits made by them with corporate entities are being received by Ministry of Company Affairs (MCA) and Reserve Bank of India (RBI). There was, therefore, a view in the Committee that the provisions relating to allowing Non-Banking, Non-Finance Companies to accept deposits from public should be reviewed and that such companies be prohibited completely from accepting deposits. However, another view was that since acceptance of deposits is one of the ways through which companies (including Non-Banking, Non Finance Companies) raise finances, there should not be complete ban for accepting deposits. Instead, the norms for accepting deposits by such companies should be made stricter.
20.2. The Committee, therefore, feels that the regime of acceptance and invitation of Public Deposits should be made stricter. There could be two sets of process viz. Ex ante processes and Ex Post processes

Ex-ante Processes :
Regulation including
(i) Disclosure requirement – The company accepting deposits should be mandated to make appropriate disclosures through issue of advertisement (text of which should be detailed and prescribed by way of rules) in the newspapers, one English and one vernacular. The application forms soliciting deposits should also indicate all such disclosures. Besides, there should be certain documents (like balance sheets / annual reports) of the company which should be open for inspection by potential deposit holders. On demand/payment of requisite fees, these should also be made available to potential deposit holders. (ii) Compulsory credit rating – No company should be allowed to raise deposits unless it obtains a credit rating from SEBI registered Credit Rating Agencies. There should be a minimum credit rating prescribed in the Act / Rules for enabling any company to go for inviting deposits. Further, the rating should also be reviewable / renewable after every two years. (iii) Creation of reserves – Besides maintaining certain percentage of deposits invited / accepted in liquid funds, every company inviting / accepting deposits should also be required to transfer certain amounts (out of profits) every year in a separate cash reserve created / earmarked only for the purpose of utilization for payment to deposit holders.

Ex-post processes
These should include setting up of a dispute resolution mechanism and penalties that deter irresponsible / fraudulent behaviour by corporates. Focus under such measures should be on bolstering confidence through an effective dispute resolution mechanism as well as penalizing of irresponsible/fraudulent behaviour by companies. A provision similar to Section 68 of the Act, presently covering punishment for fraudulent inducement for investment in shares should be made in respect of deposits also.

Insurance for Deposit Holders

21. The Committee members deliberated on the issue relating to insurance for deposit holders. Though it was brought to the notice of the Committee that there are certain difficulties on the part of Insurance companies in treating “Deposit” as an insurable product, the Committee members felt that steps should be taken in consultation with insurance companies so that risk on the part of deposit holders is reduced through insurance. The Committee felt that deposit insurance mechanism should be enabled in consultation with Insurance Companies. Therefore the Committee recommends that public deposit should be allowed to be invited or accepted only on compliance of Ex-ante and Ex-Post processes which include sound internal controls, disclosure requirements, earmarking of reserves in respect of deposit amount and mechanism to resolve grievances and complaints of depositors. Further, the regulatory mechanism should provide for suspending future deposit taking activity in case of default in compliance with the rules relating to Acceptance of Deposits on the part of company.

Registration of Charges

22. At present the provisions of the Act requires that both the borrower and the lender will have to sign the charge documents before filing with the ROC for registration. There have been instances where subsequent disputes between the borrower and the lender result in non compliance with the provisions requiring mandatory filing. This process has to be streamlined. Company Law Rules should be amended to provide if the borrower does not register the Charge within a fixed time, the lender may register the same in a specific time frame along with copies of relevant documents creating the change, with intimation to the Borrower.

Non-cash consideration to be valued before allotment

23.1 The Law should specifically provide that a public company shall not allot shares as fully or partly paid-up otherwise than in cash, unless the consideration is independently valued by a valuer appointed by the company in consultation with the allottee and the valuation is made known to the allottee and the concerned Regulator. There may be suitable provisions to provide for an eventuality where a company is allotting shares in connection with its merger with another company, where one of the companies proposes to acquire all the assets and liabilities of the other company. The contents of the valuer’s report may be specified by the Act / Rules. This would also serve to protect the Minority Interest. Committee feels that detailed provisions are also required to be provided in the Companies Act as there is a need for valuation of such non-cash consideration by independent valuers.
23.2 In the event a public company enters into an agreement to transfer non-cash assets to another public company, the consideration that has to be received by the company and any consideration other than cash that may be given by the transferee company, should be independently valued. A report in a specified format with respect to the consideration to be so received and given should be required to be made to the transferor company within a specified period preceding the date of agreement. The terms and conditions of such agreements should be subject to approval by the shareholders of transferor by an ordinary resolution.

Inter-corporate loans and investments

24.1 Subsequent to the abolition of provisions of Section 370 and 372 from the Companies Act w.e.f. 31-10-1998, the companies are allowed to self regulate inter-corporate loans and investments u/s 372A of the Act. Upon an examination of the nature of transactions that resulted in large amount of corporate funds which have been diverted to Stock Market for price rigging, the JPC on Stock Market Scam had recommended that suitable mechanism should be devised so that the corporate funds are not diverted to stock market and the prices rigging is checked. Diversion of funds through subsidiary and associate companies noticed during the course of examination of accounts of companies involved in Stock Market Scam-2001 indicate that the system of self regulation regarding inter-corporate loans and investments envisaged in the Companies (Amendment) Act, 1999 had not been very effective and requires a re-look. Necessary checks and balances for the self-regulatory mechanisms need to be put, so that the purpose of self regulation is served effectively.
24.2 The Committee feels that the provisions of the existing Section 372A of the current Act may be strengthened to ensure that there is no misuse of these provisions by corporates for price rigging or by diversion of funds. In particular disclosure requirements should be strengthened along with stringent penalties for non compliance. The law should ensure that the capacity of the corporate to invest or lend surplus funds is established transparently. There should be a prohibition on companies making loans to stock brokers and stock broking firm/stock broking companies subject to the exemptions presently provided under Section 372 A of the Act. However, this should not result in regime of Government approvals being re-imposed in this regard. The Committee was of the view that such approval could be accorded by way of Special Resolution. Further, detailed disclosures should be given in the Annual Report of the lending company about the end use of the loans and advances by the recipient entity for the intended purpose. Disclosures should also be prescribed in the explanatory statement attached with the notice for the meeting. Indian corporates should however not be placed at a disadvantage vis-à-vis companies incorporated in other jurisdictions in any international competitive bidding situation for acquisitions.

Preferential Allotments

25. The Preferential issue of equity shares/fully convertible debentures/partly convertible debentures or any other financial instruments at a price unrelated to the prevailing market is a common source of raising capital. This practice is particularly undesirable as the allotments are made to a select group of persons (even to promoters) which may be against the interest of the other investors. SEBI has framed regulations for allowing preferential allotments which require passing of special resolution, disclosures to be sent to shareholders and a pricing formula depending on stock market quotations of the company. It is, therefore, necessary to impose appropriate conditions for such allotments by unlisted public companies including for proper valuation of shares, compliance of which should be made obligatory before a public company issues shares on preferential basis. It is felt that in case of unlisted public companies, such allotment should be made subject to valuation by independent valuers. The Committee therefore recommends that the Law should provide that in case of public unlisted companies, preferential allotment can be made on the basis of valuation by an independent valuer.

Penalty for fraudulently inducing persons to invest money

26. The provisions of the Companies Act relating to penalties for fraudulently inducing persons to invest money should be made more stringent. The practice relating to imposition of penalties under provisions in the present Companies Act have been found to ineffective since there are not many cases under which punishment has actually been imposed. The legal procedure associated with such prosecution should be revisited so as to make the process more effective. The offence of fraudulent inducement should be non-compoundable. The Government may also consider actions such as attachment of bank accounts in such cases subject to the orders of Judicial Magistrate First Class.

Allotment where issues are not fully subscribed

27. Section 69 of the present Act prohibits allotment of shares unless minimum subscription is received. The Act does not contemplate allotment where issues are not fully subscribed. It has to be left to the management to decide whether it can proceed to allot the shares even if issues are not fully subscribed, particularly when the capital market is volatile. The offer letter or the prospectus must indicate the consequences when the issues are not fully subscribed and the conditions stipulated, if any, in the matter. The Law may allow, subject to adequate disclosures and fulfillment of conditions prescribed, to retain subscription received pursuant to Public Offer so made, notwithstanding non-receipt of amount of minimum subscription. The capital market regulator should also consider suitable changes to enable such public offers.

Shares with differential Voting Rights

28. The Companies Act was amended in the year 2000 for providing issue of equity shares with differential voting rights. However, the Committee noted that there was a lack of clarity in the Rules. Also, there were no corresponding amendments effected in Section 87 of the Act. As a result no corporate could avail of the benefits of this provision. The Committee felt that introduction of concept of shares with differential voting rights should be retained. However, clarity should be brought about in the framework of associated rules to enable proper use of such instrument.

NIDHI Companies

29.1 The Companies Act empowers the Central Government to declare a company to be a NIDHI or mutual benefit society. The genesis of this amendment lies in the recommendation of the Company Law Amendment Committee in 1960 that the object of the NIDHI companies was to enable the members to save money and to secure loans at favorable rates of interest. The companies inculcate the habit thrift in the public. The shares of such companies are not offered to the public for subscription. Since application of some of the provisions of the Companies Act creates hardship and cripples slender resources available to such companies, they have also been provided with certain exemptions from time to time.
29.2 Initially the area of operation of the NIDHI companies was local – within Municipalities and Panchayats. However, some NIDHIs on account of their financial and administrative strength opened branches even out side their local territories though the principle of mutual benefit remained fundamental to them.
29.3 A few failures of leading NIDHI companies caused by mismanagement of those in control and involving lakhs of depositors, led the Government to constitute a Committee under the Chairmanship of Shri P. Sabanayagam to examine the various aspects of the functioning of NIDHI companies. The Committee recommended deployment of funds in deposits in Nationalised Banks, sanction of loans against specified security and as a percentage of the value of a property offered as security, fixing of ceiling of interest on deposit, restriction on opening of branches, applicability of prudential norms for income recognition and classification of assets of the NIDHI companies. Subsequently, the Government has enabled application of prudential norms in matters relating to income recognition and classification of assets and provisioning for non performing assets.
29.4 NIDHI companies are effectively non-banking financial companies and are engaged in the business of accepting deposits and making loans to their members. The recent failures in the NBFC sector also extended to the NIDHI companies compelling the Government to introduce strict prudential norms for such companies. The deposit taking activities of NIDHIs are governed by the RBI Act and guidelines made thereunder. The power to give exemptions to the NIDHI companies in the administration of NIDHI i.e. with the Ministry of Company Affairs. This dual control leads to confusion in the administration of the provisions of the RBI Act and the Companies Act, 1956. Since, RBI is the regulator of all the NBFC incorporated under the Companies Act, the Committee felt that NIDHI companies should also be controlled by RBI through close supervision.

Debenture Redemption Reserve (DRR) in case of NBFCs/Other Companies

30. A view has been expressed that the concept of DRR is not relevant in the case of NBFCs where debentures are raised for financing assets under Hire Purchase or Leasing which are self liquidating in nature. Keeping in view the requirement of NBFCs, the Government has provided some exemptions from this requirement to NBFCs by issuing circulars. While doing so, the obligation on the part of NBFCs to maintain a percentage of assets in unencumbered approved securities and creation of reserve funds to an extent of 20% of net profits etc. The financial prudential norms under which Banks and NBFCs operate are regulated by the RBI. To avoid regulatory overlap, we are of the view that RBI should make suitable provisions in this regard. The existing exemptions to NBFCs may continue till such time. However, for the other companies, the Company Law should provide an enabling provision to enable the Central Government to regulate the limits of DRR.

Relevance of Present Section 208

31.1 Section 208 of the Companies Act enables payment of interest on share capital subject to conditions prescribed in the said Section. The use of word ‘interest’ instead of dividend distinguishes returns paid out of capital and returns paid out of profits.
31.2 As per Section 208 (1)(b) of the Companies Act, the interest on capital paid pursuant to Section 208 can be charged to capital which may lead to cost overruns of long gestation projects. The return on the investment in favour of the shareholders also acts as a disincentive on the part of the shareholders to push for early completion of the project
31.3 Further, rates of interest are decided by the market forces and the policy of the Reserve Bank of India in vogue from time to time.
31.4 The arena of corporate financing has undergone several changes since inception of Section 208 in 1956. Corporates are increasingly resorting to a variety of instruments to finance infrastructure projects and alternative forms of financing are available at rates of interest which are market driven. Section 208 of the Companies Act has, therefore, outlived the purpose for which it was introduced. The Committee therefore took the view that Section 208 should be deleted from the provisions of the Companies Act.