Companies Act 2013: New Ideas

By Akshit Mago & Uday Pratap Singh

Editors Note: This papers essentially seeks to undertake a critical appraisal of certain new concepts introduced by the Companies Act, 2013 such as One Person Company, Corporate Social Responsibility and Vigil Mechanism. The author have briefly highlighted the positive outcomes and the effect thereon.

Introduction

The Companies Act, 1956 has been in force since the past 57 years. It was a broadly held opinion that the Company Law enactment requires radical reform in order for it to be in consonance with contemporary economic realities. The Companies Bill, 2011 received the Presidential Assent on August 29, 2013.  This marked the establishment of a more comprehensive and dynamic legal framework for corporate governance.

The Old Act as an enactment was archaic both in time and thought in the context of the present form of the global business environment.The Old Act was an enactment in the context of a closed economy and a system of permits and licenses. The introduction of 1st generation reforms ushered in liberalization, privatization and globalization (“LPG”) necessitated proportional reforms in Company Law, which have only been introduced now under new the New Statute.

The New Act envisages an efficacious corporate governance regime based on   enhanced self-regulations and with corporate democracy. The framework promotes new concepts of Corporate Social Responsibility and e-governance. The New Act seeks to insure stricter enforcement and investor/creditor protection.

 This essay seeks to practically and legally examine the new insertions made by the New Act. The essay will cover the following insertions:-

  1. One Person Company {s. 2 (62)}
  2. Corporate Social Mechanism (s. 135)
  3. Vigil Mechanism {s. 177 (9)}

 One Person Company

The concept of One Person Company (OPC) was introduced by the expert committee spearheaded by Dr. J.J. Irani in 2005, as a revolutionary new concept enshrined in the New Act. According to the New Act, “One Person Company means a company which has only one person as a member.”[i] Further, OPC under Section 3 is classified as a‘Private Company’. This dynamic concept seeks to synergize small and medium scale enterprises that are based on entrepreneurial acumen and individual initiative.

Furthermore, OPC’s occupy a unique position distinct from that of a public or a private company and also enjoy simpler legal regimes with respect to procedural and structural framework. OPC’s are subject to relaxed legal compliances in matters pertaining to corporate filings such as Annual Returns[ii], Financial Statement[iii]; holding of Annual General Meetings[iv], Contracts[v] and General Management and Administration[vi]. These provisions facilitate Mergers & Acquisitions as they become less cumbersome. This is expected to only augment substantial Foreign Investments, Joint Ventures and Mergers in startup enterprises.

With the seeds of the concept of OPC sown firmly in the New Act, it will take time for this to incentivize innovation and entrepreneurial participation. Having been successful in jurisdictions such as USA, Australia and EU, OPC is expected to perform similarly in India.

OPC may have a successful future but at the same time, inevitably,the concept faces shortcomings as One Person Company may pave room for evasion of tax liability and public funds.There may also be a requirement to fulfill the minimum capital requirements to initiate and complete incorporation. Thus, for OPC to be a success in the times to come, adequate precautions maybe applied to avoid evasion and fraud as these issues will only crystallize further and may become a matter of grave concern in the future.

The introduction of this concept will give rise to enormous opportunities and access to corporate structures in the future. The need for building procedural and institutional safeguards can hardly be exaggerated. However, as a new form of corporate structure, OPC shall be a potent vehicle of economic progress.

Corporate Social Responsibility

India is a country where corporates such as Tata Group among others have not only augmented to the economic growth of the country but have also been involved in social developments. The New Act under Section 135 provides for National Voluntary Guidelines for Social, Environmental and Economic Responsibilities of Business or the NVGs and the provision of Corporate Social Responsibility. This is to ensure that all corporates engaged in activities to fulfill, what is known as, “Corporate Social Responsibility”. The intention behind introduction of such a provision is to make sure that all companies give back something to the society in one way or the other. 

The provision related to CSR forms the cornerstone of the New Act. There are several definitions of CSR all of which are distinct from one another yet they all focus on the impact of business enterprises on the society at large. The EC[vii]defines CSR as “the responsibility of enterprises for their impacts on society”. To completely meet their social responsibility, enterprises “should have in place a process to integrate social, environmental, ethical human rights and consumer concerns into their business operations and core strategy in close collaboration with their stakeholders”.

India has always been at the forefront when it comes to volunteerism but such activities now coming under the New Act in the shape of CSR have become mandatory. According to Section 135, a company would be mandatorily required to keep 2% of its profits for “Corporate Social Responsibility”. The provision applies to all the companies who have: –

  1. Net worth of rupees five hundred crore or more
  2. Turnover of rupees one thousand crore or more
  3. Net profit of rupees five crore or more during any financial year

Schedule VII of the New Act lists ten activities as CSR policies for a company inter alia being: – promotion of education, eradicating extreme hunger and poverty, etc. The New act not only promotes greater transparency in the functioning of a company but also works towards achieving sustainability.

CSR has numerous advantages as it helps in gaining the trust of the society, satisfies employees and customers, develop positive image in the society, accelerates growth, strengthens public relations, attracts talent, keeps company’s name at the fore front through sponsorship of charitable events, helps accomplish long term benefits and several new business opportunities.

Another major loophole according to the author is that there is no particular authority to overlook precise and efficient adherence of the provision of CSR. Section 135 (5) along with one of its proviso recognizes the presence of a Board formed internally but it lacks a procedure wherein the report needs to be submitted to the Government or to a monitoring body. This clearly leaves the question of compliance and enforcement unanswered.

Although the inclusion of Section 135 accompanies various benefits and is a step worthy of appreciation yet there remains a number of contradictions, which need to be addressed. Thus, it becomes imperative that certain solutions in the form of an amendment to Schedule VII of the New Act are made. This will make the definition of CSR more relaxed and flexible when it is actually used by a company to initiate an exercise attracting the mandatory provision of CSR. Also, to enable stricter implementation of the provision, introduction of a supervisory body should be made.

Vigil Mechanism(Whistle-blowing)

The term “whistle-blowing” originated from the practice of the British policemen who blew their whistles, whenever they witnessed the commission of a crime and wanted the public at large to take notice of such committance.

On a corporate note, whistle blowing means calling the attention of the top management to wrongdoings and frauds occurring within an organisation. The term is now being heard more than ever before, as the media, corporates and the public are now becoming increasing aware of the concept, but unfortunately up till the New Companies Act, 2013, there were no safeguards provided to a whistle blower.

Now, it is pertinent to note that under Section-177(9)of the New companies Act, it has been made mandatory for all listed companies or such class of companies to establish a vigil mechanism for directors and employees to report genuine concerns, wrongdoings in a manner as may be prescribed.

Most frauds result in some form of business disruption as well as reputation and financial losses. Whistle blowing is still at a nascent stage in India and most Indian companies do not use it as an effective tool against fraud.[viii]Thus, it is of utmost importance that Indian corporates introduce such a mechanism to avoid any such losses in the future.

As with other new provisions, The vigil mechanism too comes across as a half hearted attempt as it has major lacunas.The Section does not define ‘genuine concerns’ but going by global practices, vigil mechanisms normally have a wide scope ranging from conflict of interest to financial reporting. Also , generally it has been seen that it is the former employees of a company who end up taking the role of whistle blowers but there is no safeguard provided to them under Section 177(9) of the New Act.

Therefore, with  ambigious or no definitions, it leaves scope for the company to makes the vigil mechanism function at their suitability and take up grievances which conveniently come under their purview.

Adding to the criticism, the draft rules do not specify the activities of the audit committee. Surely, one cannot expect the audit committee to receive calls or emails containing concerns. In other countries, the leading practice is to outsource such activity to a service provider for reasons of confidentiality, objectivity and the perceived ‘low-end/ mechanical’ nature of these tasks among others.

The same holds for preliminary evaluation, investigation, corrective action and reporting, which cannot possibly be handled by the audit committee for all the genuine concerns received by it.

These measures to ensure greater vigilance are largely internal in nature with limited or no external oversight. Therefore, in keeping the above in mind, it seems that this legislation is more of an “eye-wash” as it doesn’t provide affective protection to whistle blowers.

Conclusion           

This essay seeks to examine the scope and import of the reforms ushered in by the New Companies Act. The acceptance of new innovations such as One Person Company is an important step towards unleashing economic potential. However, concerns of tax evasion, investor and creditor protection need to be adequately addressed.

 The age old moral canon of CSR has for the first time been given the force of law in this act. However, it lacks a pragmatic approach centered around compliance.

The New Act seeks to bolster the enforcement machinery by developing ‘vigil mechanisms’ within the corporations. However, certain specific gray areas remain as a challenge to implementation.

It is opined that the New Act has substantially ushered in desirable change in Company Law. However, this change cannot be said to be in full measure. Further, new areas of improvement shall emerge once the act in its entirety is implemented in the Indian context.

Edited by Saksham Dwivedi

[i] Companies act. 2013 (India) Section 2(62)

[ii] Companies Act, 2013 (India) Section 93

[iii] Companies Act, 2013 (India) Section 2(40)

[iv] Companies Act, 2013 (India) Section 96

[v] Companies Act, 2013 (India) Section 193

[vi] Companies Act, 2013 (India) Section 122

[vii]European Commission, Enterprise and Industry, available at http://ec.europa.eu/enterprise/policies/sustainable- business/corporate-social-responsibility/index_ en.htm (visited on March 29, 2014)

[viii]ASSOCHAM and Ernst & Young, Whistle-blowing not used often by corporates for fraud prevention, says ASSOCHAM-E&Y study (Press Release), August 05, 2013.

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