The Concept of Private Placement under The Companies Act, 2013

1.1 INTRODUCTION:

 

Any business needs funds in order to make it successful or at least run that business. Initially, the money comes from the subscription of the members but as the company grows, it definitely needs more funds. The company then raises funds by various methods. One of them, or in fact the most preferred method to raise funds is that of private placement. The Companies Act, 1956 and the SEBI (Securities and Exchange Board of India) guidelines and regulations governed the law relating to private placement, but the loopholes present in those laws were extensively misused by the companies and their promoters to indulge in malpractices, thereby compromising the interests of the shareholders.

The Companies Act, 2013 made significant changes in the law relating to private placement and made it water-tight in order to avoid any leakage and prevent the malpractices taking place in the companies. With this new law, the procedure for private placement has become more structured, transparent and time-oriented as compared to the law under the 1956 Act. Explanation II (ii) of Section 42, unlike the law under the 1956 Act, defines “Private Placement”. According to it, Private Placement means any offer of securities or invitation to subscribe securities to a select group of persons by a company (other than by way of public offer) through issue of a private placement offer letter and which satisfies the conditions specified in this section.

 

1.2 BACKGROUND:

 

The lacuna in the provisions of Companies Act, 1956 related to private placement can be very well seen in the case of Sahara Group [1] wherein the companies Sahara India Real Estate Corporation Limited (SIRECL) and Sahara Housing Investment Corporation Limited (SHICL) issued unsecured optionally fully convertible debentures (OFCDs) amounting to Rs. 19,400 crore raised from over 2 crore investors. When Securities Exchange Board of India came to know about the large scale collection of money from the public by the Sahara Group of companies through the issuance of the OFCDs, it issued a show cause notice to SIRECL and SHICL stating that this issuance of OFCDs was a public issue and thus liable to be listed under section 73 of the Companies Act 1956. The Sahara group of companies put forth the contention that the funds were raised through private placement of the OFCDs, which were outside the definition of “securities” mentioned in the SEBI regulations. They also contended that since they were unlisted companies, the issue of such debentures were outside the scope of SEBI. SEBI however contended that this method of raising capital adopted by the Sahara group violated various regulations and since the offer was made to more than 50 persons at a time, it becomes a public issue by virtue of first proviso to section 67(3) of the Companies Act, 1956[2]. The Hon’ble Supreme Court also held that ‘following situations, it is generally regarded, as not an offer made to public:

• Offer of securities made to less than 50 persons;
• Offer made only to the existing shareholders of the company (right issue);
• Offer made to a particular addressee and be accepted only persons to whom it is addressed;
• Offer and invitation being made and it is the domestic concern of those making and receiving the offer.[3]

While Sahara was a high profile case, there are various other companies that used the lacunae of the provisions of the law relating to private placement and indulged in various malpractices. Companies took advantage of the overlapping powers of the Ministry of Corporate Affairs (MCA) and SEBI in order to make multiple private placements. The new provisions of the Companies Act, 2013 has now made the law more tight and secured and prevents the scope of any malpractices by the companies. The 2013 Act mandates, under section 42(4), a company to comply with the provisions laid down under Securities and Exchange Board of India Act and Securities Contract Regulation Act (SCRA).

 

1.3 THE 2013 ACT: AN ATTEMPT TO CURB MALPRACTICES:

The provisions of the 2013 Act has helped to curb malpractices that had increased in the corporate world. The provisions are listed as below:

• Use of the term ‘securities’ instead of ‘shares’[4] : Use of the term shares in the Act of 1956 restricted the regulations of issuances of various other instruments by companies to raise funds. Companies manipulated this loophole by using other terminology or nomenclature for instruments used to raise funds, thereby easily escaping the regulatory oversights. Having understood the practices, the government decided to cover issue of all types of securities in the Companies Act and thus minimizes the chances of manipulation.
• Restriction on number of persons to whom a private placement offer can be made in a financial year[5] : The number of persons to whom invitation or offer of private placement can be made shall not be more than 200 in an aggregate for a financial year and not more than 4 such offers shall be made in a financial year.
• Use of banking channels for private placement[6] : Since the subscription money will have to be paid through demand draft or cheque or other normal banking channels, opportunities to launder money will go down.
• Requirement to complete allotment within 60 days[7] : It has been specified that allotment under Private Placement should be made within 60 days of receiving the application money. This proposal will curb a common practice under which companies would accept funds as application money without adequately complying with regulations for accepting deposits.[8]
• It has been specifically provided that where the private placement does not comply with the provisions of the Act, it shall be treated a s a public offer and that all provisions of the Securities Contract Regulation Act, 1956 and the Securities and Exchange Board of India Act, 1992 would apply[9].

 

HOW IS PRIVATE PLACEMENT DIFFERENT FROM A PUBLIC OFFER?

While in case of private placement there is a cap of 50 persons to whom the offer for securities can be made, there is no such limit in case of a public offer. If a company makes an offer, or enters into an agreement to allot securities to more than 50 persons, it shall be deemed to be an offer to the public and thus shall be governed by the provisions of Part I of chapter III of the Companies Act, 2013 in contrary to the provisions laid down by Part II of chapter III of the Act.

 

1.4 CONDITIONS FOR PRIVATE PLACEMENT:

The law for the private placement of securities is codified under sections 42 and 62 of the Companies Act, 2013 and the Companies (Prospectus and Allotment of Securities) Rules, 2014. However, Rule 13 of the Companies (Shares Capital and Debentures Rules), 2014 lays down certain mandatory secretarial compliances in case of various modes of issue of shares under section 62.

• A private placement offer cannot be made to more than 200 people in aggregate in a financial year excluding “qualified institutional buyers”[10] and employees of the company being offered securities under a scheme of employee’s stock option as per provisions of clause (b) of sub-section 1 of section 62 of the Act of 2013.
• If a company, listed or unlisted, makes an offer to allot or invite subscription, or allots, or enters in to an agreement to allot, securities to more than 200 persons, whether the payment for the securities has been received or not or whether the company intends to list its securities or not on any recognized stock exchange in or outside India, the same shall be deemed to be an offer to the public and shall accordingly be deemed to be an offer to the public and shall accordingly be governed by the provisions of Part I of chapter III of the Companies Act, 2013.[11]
• No fresh offer or invitation under this section shall be made unless the allotments with respect to any offer or invitation made earlier have been completed or that offer or invitation has been withdrawn or abandoned by the company.[12]
• Any allottee under a private placement offer/invitation shall not transfer his/its securities to more than 20 persons during a quarter and the company shall not register any transfer which is not in conformity with this requirement.
• The number of such offers or invitations shall not exceed 4 in a financial year and not more than once in a calendar quarter with a minimum gap of 60 days between any 2 such offers or invitations.
• The value of such offer or invitation shall be with an investment size of not less than 20,000 Rupees of the face value of the Securities.[13]
• No company offering securities under this section shall release any public advertisements or utilise any media, marketing or distribution channels or agents to inform the public at large about such an offer.[14]
• Any offer or invitation not in compliance with the provisions of section 42 shall be treated as a public offer and all provisions of this Act, and the Securities Contracts (Regulation) Act, 1956 and the Securities and Exchange Board of India Act, 1992 shall be required to be complied with.[15]
• The payment for the subscription should be made through cheque or demand draft or other banking channels but not by cash.[16]
• A company making an offer or invitation under section 42 shall allot its securities within sixty days from the date of receipt of the application money for such securities and if the company is not able to allot the securities within that period, it shall repay the application money to the subscribers within fifteen days from the date of completion of sixty days and if the company fails to repay the application money within the aforesaid period, it shall be liable to repay that money with interest at the rate of twelve per cent per annum from the expiry of the sixtieth day.[17]
• All offers covered under section 42 shall be made only to such persons whose names are recorded by the company prior to the invitation to subscribe, and that such persons shall receive the offer by name, and that a complete record of such offers shall be kept by the company in such manner as may be prescribed.[18]
• Complete information about the offer made shall be filed with the Registrar within a period of thirty days of circulation of relevant private placement offer letter.
• Whenever a company makes any allotment of securities under section 42 of the Act of 2013, it shall file with the Registrar a return of allotment in such manner as may be prescribed, including the complete list of all security-holders, with their full names, addresses, number of securities allotted and such other relevant information as may be prescribed.[19]

 

1.5 PROCEDURE FOR PRIVATE PLACEMENT OF SECURITIES:

 

• The person(s) to whom private placement offer/invitation shall be made has to be identified first. All offers shall be made only to such persons whose names are recorded by the company prior to the invitation to subscribe, and that such person shall receive the offer by name.
• A private placement offer letter needs to be prepared according to Form No. PAS 4.[20] It shall be accompanied by an application form addressed specifically to the person to whom the offer is made and shall be sent to him by name.
• The proposed offer of securities or invitation to subscribe securities needs to be approved by the shareholders of the company, by way of a special resolution for each of the offers/invitations.[21]
• The offer letter and the application form addressed specifically to the allottee shall be sent to him, either in writing or in electronic mode, within 30 days of recording the names of such persons as specified above. No person other than the person so addressed in the application form shall be allowed to apply through such application form and any application not so received shall be treated as invalid.[22]
• The company has to maintain a complete record of private placement offers and acceptances of such offer in Form No. PAS 5.[23]
• A copy of the record maintained by the company along with the private placement offer letter in Form No. PAS 4 has to be filed with the Registrar with fee and with the Securities and Exchange Board, where the company is listed, within a period of 30 days of circulation of the private placement offer letter.
• All monies payable towards subscription of securities under this section has to be paid through cheque or demand draft or other banking channels but not by cash. Further, the payment to be made on subscription of securities shall be made from the bank account of the person subscribing to such securities. In case of joint holders, it shall be paid from the bank account of the person whose name appears first in the application.
• Monies received on application under this section shall be kept in a separate bank account in a scheduled bank and shall not be utilized for any purpose other than –

(a) for adjustment against allotment of securities; or

(b) for the repayment of monies where the company is unable to allot securities.[24]

• A company making an offer or invitation under section 42 shall allot its securities within sixty days from the date of receipt of the application money for such securities and if the company is not able to allot the securities within that period, it shall repay the application money to the subscribers within fifteen days from the date of completion of sixty days and if the company fails to repay the application money within the aforesaid period, it shall be liable to repay that money with interest at the rate of twelve per cent per annum from the expiry of the sixtieth day.
• A return of allotment of securities under section 42 shall be filed with the Registrar in Form No. PAS 3 with necessary fees along with a complete list of all security holders containing-
• full name, address, PAN, and E-mail id of such security holders;
• class of security held;
• date of becoming security holder;
• number of securities held; nominal value and amount paid up on such securities; and particulars of consideration received.[25]
• Share certificates has to be issued and minutes books and registers has to be kept updated at all times.

 

1.5 CONCLUSION:

Thus, we see many steps has been taken by the government to protect the honest investors from the malpractices of the companies. As per Section 42(10) of the Companies Act, 2013, “If a company makes an offer or accepts monies in contravention of this section, the company, its promoters and directors shall be liable for a penalty which may extend to the amount involved in the offer or invitation or two crore rupees, whichever is higher, and the company shall also refund all monies to subscribers within a period of thirty days of the order imposing the penalty.”

The primary advantage of the private placement is that it bypasses the stringent regulatory requirements of a public offering. Another advantage of private placement is the reduced time and reduced cost of issuance. Issuance of securities publically can be time consuming and may require certain expenses.

Also, because private placements are negotiated privately between the investors and the issuing company, they can be tailored to meet the financing needs of the company and the investing needs of the investor.

There are also some disadvantages of using private placement as a method of raising funds for the Companies. For example, there will be the need to place the bonds or shares at a substantial discount to compensate investors for their greater risk and longer-term returns.

Hence we see, that like every coin has two sides, private placement has its own advantage and disadvantage. But, this method of raising funds is the most preferred and commonly used method by the companies because it gives more flexibility and gets capital much faster than searching for venture capitalists, or waiting for shares to sell on the public market.

[1] Sahara India Real Estate Corporation Limited & Ors v. SEBI & Anr. (2012) 10 SCC 603

[2] (2012) 10 SCC 603

[3] Ibid.

[4] http://www.companiesact.in/PgKnowledge/ClassRoomSeries10.aspx 09.09.2015 12.44

[5] As per rule 14 (2) (b) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[6] As per Section 42 (5) of the Companies Act, 2013.

[7] As per Section 42 (6) of the Companies Act, 2013.

[8] Ibid 5

[9] As per section 42 (4) of the Companies Act, 2013.

[10] “qualified institutional buyer’’ means the qualified institutional buyer as defined in the Securities and Exchange Board of India (Issue of Capital and Disclosure Requirements) Regulations, 2009 as amended from time to time. (as per explanation II (i) of section 42(2) of the 2013 Act)

[11] Ibid 1.

[12] As per Section 42(3) of the Companies Act, 2013.

[13] As per Rule 14(2)(c) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[14] As per Section 42(8) of the Companies Act, 2013.

[15] Ibid 10.

[16] Ibid 7.

[17] As per section 42(6) of the Companies Act, 2013.

[18] As per section 42(7) of the Companies Act, 2013.

[19] As per section 42(9) of the Companies Act, 2013.

[20] As per rule 14(1)(a) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[21] As per rule 14(2)(a) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[22] As per rule 14(1)(b) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[23] As per rule 14(3) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.

[24] As per proviso to Section 42(6) of the Companies Act, 2013.

[25] As per rule 14(4) of the Companies (Prospectus and Allotment of Securities) Rules, 2014.