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A test on drafting

S. Prasanna Venkatesh examines the June 2000 CS (Final) paper on CLP-I

THOUGH easy to tackle, the paper is different from the earlier ones, with more questions on drafting. The number of theory questions are, therefore, less this time round _ a welcome change indeed.

The allocation of marks to questions on drafting has increased quite significantly. And the weightage to case-law-oriented questions has remained more or less unchanged. On the whole, the paper is well-balanced between theory and practice/application _ u nlike the previous session where theory was given too much importance.

An in-depth look now at the paper:

1(i) Comment on the following: i) ``Technical experience of a shareholder cannot be taken as the technical experience of the company.''

A company once incorporated has a distinct legal entity different from that of the members. Hence, it may be argued that the qualifications or knowledge of the shareholders cannot be considered to be that of the company. However, in New Horizons Ltd vs U nion of India, it was observed that the corporate veil can be pierced to find out the nature of the company from that of the shareholders. It was also held that the experience of the company means the experience of the constituents of the company.

1(ii) ``Promoter is neither an agent nor a trustee, but he occupies the fiduciary position in formation of the company.''

A promoter is the person who gives birth to the idea of enterprise and takes preliminary steps to incorporate it as a company and find entrepreneurs to run them. A promoter cannot be considered to be an agent of the company because, when he is taking the steps for incorporating the company, the company is not in existence and, hence, there cannot be an agent for a non-existent principal (Keiner vs Baxier). He is not a trustee, as the prerequisites for a trust to come into existence are not present. Howe ver, he may he considered to be in a fiduciary relationship towards the company he is promoting (Lagnus Nitrate Co vs Lagnus Syndicate). The fiduciary duties by which the promoter is bound may be outlined as under:

a) not to make any secret profits in the promotion of the company; and

b) to make full disclosures of ad transactions and also his interest in them, if any.

1(iii) ``An act which is ultra-vires the company does not bind the company and neither the company nor the other party can sue.''

An ultra-vires transaction means one which is outside the scope of the powers of the company. The doctrine of ultra vires was first laid down in the Ashbury Railway Carriage and Iron Co Lid vs Riche (1875) case. An ultra-vires transaction cannot be ratif ied even if all the members of the company ratify it. In Prescott vs Birmingham Corporation, it was observed that an act which is ultra-vires the company does not bind the company and neither the company nor the other party can sue on it.

1(iv) ``Shareholders are not, in the eyes of law, part-owners of the company.''

A company on its incorporation acquires a separate legal entity different from that of the members. It becomes a legal personality capable of acquiring property, entering into contracts and seeking legal remedies in its own name. The members of the compa ny are different from that of the company. The property of the company is owned by the company in its own name and is not owned by the members of the company. In Short vs Treasury Commissioners, it was observed that the shareholders are not, in the eyes of law, part-owners of the undertaking. The undertaking is something different from the totality of shareholders. A shareholder merely has a interest in the company, which arises out of the articles of association (AoA) _ that is, by way of receiving div idends, if declared, and his liability in the case of winding up. These views have also been upheld in various other cases such as in R. C. Cooper vs Union of India and Mrs. Guzdar vs CIT (Bombay).

2(a) Is listing of all public issues with recognised stock exchanges mandatory? What are the legal implications if application for listing is pending/refused by a stock exchange? (5 marks)

This is a direct question, which could have been tackled easily if the provisions of the Companies Act, 1956 relating to public issues had been revised thoroughly.

Sec. 73(1) of the Companies Act provides that every company intending to offer shares or debentures to the public by issue of prospectus shall, before such issue, make an application to one or more recognised stock exchanges for permission for the shares /debentures to be dealt with on that stock exchange. Hence, listing is mandatory for all public issues.

Sec. 73(IA) provides that where a prospectus has been issued stating that an application has been made for obtaining the consent of a recognised stock exchange for listing and the listing is not permitted by the stock exchange within 10 weeks of the clos ure of the subscription lists, the allotment becomes void. Where application has been made to more than one stock exchange for listing, then even if one of them refuses permission for listing, the allotment becomes void (Rishyashringa Jewellery Ltd vs St ock Exchange, Bombay, 1996). However, the allotment shall not be void until the pendency of an appeal against the stock exchange's decision to refuse listing under the Securities Contract (Regulation) Act, 1956.

2(b) State the important additional disclosures required to be made in a prospectus for public issue of securities to achieve greater transparency. Name the authority which has made the additional disclosures mandatory, though not included in Schedule II to the Companies Act, 1956. (5 marks)The Securities and Exchange Board of India (SEBI) was created in 1988 as an organisation with statutory status to regulate the capital market. Under the SEBI Act, 1992, it has been given wide powers to make necessary rules and regulations to protect the interests of the investors. SEBI recently (January 27, 2000) issued the Guidelines for Disclosures and Investor Protection, which supersedes the earlier guidelines. However, from the point of view of the June 2000 ex am, the students should answer keeping in mind the earlier guidelines. Some of the points prescribed by SEBI for disclosure _ in addition to the disclosure requirements under Schedule II to the Companies Act, 1956 _ are:

a) details regarding the project cost and means of financing; b) financial arrangements regarding the public issue; c) details of previous year's turnover; d) statement of assets and liabilities; e) promoter's shareholdings; and f) management perception of risk factors, and so on.

2(c) Who are the `officers' of a company and `persons deemed to be connected persons' in terms of the SEBI (Insider Trading) Regulations, 1992? (6 marks)

This question might have posed problems for the students. Though it is direct, it demands accurate knowledge of the definitions.

Officers: Rule 2(g) of the SEBI (Insider Trading) Regulations, 1992, defines an officer of a company as defined in the Companies Act and also includes the auditors of the company. The Companies Act defines an officer to include, among others, directors, manager or secretary or any other person in accordance with whose instructions the board or one or more of the directors is/are accustomed to act.

Persons deemed to be a connected persons: Rule 2(h) defines a person to be a connected person if such person is: a) a company under the same management or group or any subsidiary thereof under the Companies Act, 1956 or the MRTP Act, 1969;

b) an official, member or employee of a stock exchange, clearing house or a dealer in securities;

c) a merchant banker or other specified agency in the business of managing public issues;

d) a member of the board of directors or an employee of a public financial institution as defined in Sec. 4A of the Companies Act;

e) an employee or an official of a self-regulatory organisation recognised or authorised by the board of a regulatory body;

f) a relative of the aforesaid persons; and

g) a banker of the company.

3(a) Distinguish between `diminution of share capital' and `reduction of share capital'. (5 marks)

This is a direct and oft-repeated question. Fetching more marks would, therefore, depend on proper presentation. The answer may preferably be given in a tabular form.

Diminution of capital refers to the cancellation of shares which have not been taken or agreed to be taken by any person. It is treated as an alteration of capital under Sec. 94 of the Companies Act. An ordinary resolution would be sufficient. Form 5 sho uld be filed with the Registrar of Companies (RoC) in terms of Sec. 95 of the Act. The impact on diminution of capital on the capital structure of the company is not very significant.

In contrast, reduction of capital refers to the reduction in the paid-up capital or liability on the shares of the company in any of the ways referred to in Sec. 100 of the Act. Reduction of capital can be done only with the approval of the court and the general meeting should authorise the reduction by way of a special resolution. Approval of the creditors is required for the reduction. The procedure for reduction is prescribed in Sec.s 100 to 104 of the Act. It has a significant impact on the capital structure of the company.

3(b) Draft an appropriate resolution under Sec. 81(1A) of the Companies Act for issue of 20-lakh shares of Rs. 10 each at a premium of Rs. 15 per share. (5 marks)

This is again a direct and easy question.

Meeting: General meeting.

Resolution: Special resolution.

Draft resolution: ``RESOLVED THAT the consent of the company be and is hereby accorded to the board of directors pursuant to Sec. 81 (1A) and other applicable provisions of the Companies Act, 1956, to issue further 20 (twenty) lakh equity shares of the c ompany (par value Rs. 10) at a premium of Rs. 15 per share to such person or persons other than and including the existing shareholders of the company.''

3(c) Equity shares of Rs. 10 each of XYZ Ltd are quoted in the Bombay Stock Exchange at Rs. 2,500 a share. The directors of the company would like to reduce the face value of the share to Re. 1. Is it permissible? What is the procedure? Advise the compan y.

This question tests the students' knowledge of the latest guidelines. The Secondary Market Department of SEBI (vide press release dated June 11, 1999) abolished the concept of standard denomination of shares. Hence, in the present case, XYZ Ltd can conve rt the par value of its shares from Rs. 10 to Re. 1 in accordance with the guidelines.

The conditions to be fulfilled by the company are as follows:

a) the company has to amend the memorandum and articles of association;

b) it must have dematerialised shares to convert its par value;

c) it must adhere to the disclosure and accounting norms as may be specified from time to time;

d) the share denomination cannot be less than a rupee or decimal of a rupee; and

c) the stock exchanges concerned should also be informed in accordance with the listing agreement.

4(a) Ankit, a minor aged 15, purchased 100 fully-paid equity shares of a company and submitted a transfer deed to the company for registration in his name, duly executed by his father and natural guardian. The company refused the transfer, as Ankit is a minor. Advise Ankit. (5 marks)

A minor does not have the capacity to enter into a contract as he cannot incur any liability on his own account. However, in the case of fully-paid shares, there exists no liability to the minor or his estate. Hence, the minor may be admitted to the bene fits of membership. In Nandita Jain vs Bennet Coleman Co. Ltd, the Company Law Board (CLB) has held that a minor applying for through his/her natural guardian for being registered as a member of the company is entitled to do so if the shares are fully pa id-up. Hence, Ankit may be advised to approach the company or seek relief from the CLB for registration of the transfer.

4(b) Describe the concept and utility of `price band' in relation to the offer document of a public company listed in a recognised stock exchange. (5 marks)

Earlier, a company wishing to raise capital through a public issue was required to file the offer document with SEBI for vetting. SEBI has, however, revoked this requirement, and now it is the responsibility of the merchant banker to the issue to file th e offer document with SEBI. There would be a considerable time gap between the filing of the offer document with SEBI and the actual date of the issue of the shares. And owing to the capital market developments taking place during this interval, the pric e may not be reflective of true position. Hence, the issuers are allowed to mention a price band of 20 per cent in the offer document submitted with SEBI and the actual price could be determined at the time of filing of the offer document with the RoC/st ock exchanges, which should remain within the price band.

4(c) Ajay, the transferee, forwarded a transfer deed duly executed along with a share certificate for 100 shares to the company by registered post. However, the company did not receive the same. Advise Ajay on the steps to be taken for getting the shares registered in his name. (6 marks)

In this case, both the transfer deed and the share certificates have not reached the company. Though Sec. 51 of the Companies Act provides that a document may he served on a company by registered post, it has not been specified in that section that the s ervice is deemed to have been effected, as in the case of serving of notices and other documents on the members by the Company. The first proviso to Sec. 108(1) deals with a case where the transfer deed alone is lost and the share certificate is availabl e with the party concerned.

The solution to the present problem would be to make an application for issue of duplicate share certificate in accordance with Rule 4(3) of the Companies (Issue of Share Certificates) Rules, 1960. After obtaining the duplicate share certificate, an appl ication may be made to the board of directors under Sec. 108(1) first proviso, to register the transfer though the transfer deed has been lost.

(To be concluded)