Saturday, September 8, 2012

FOREIGN DIRECT INVESTMENT IN LIMITED LIABILITY PARTNERSHIPs (LLPs) IN INDIA AND SUITABILTY OF LLP STRUCTURE IN INDIA


FDI IN LLPs  IN INDIA AND SUITABILTY OF LLP STRUCTURE IN INDIA

Limited Liability Partnership (“LLP”) is a developing form of corporate structure in India for doing business in India. It is a mix form of a limited liability company and a partnership firm. It has both the limited liability benefit, perpetual succession with partnership structure lies in its soul. This structure has been introduced by the Government of India in 2008 by passing LLP Act 2008.

Since LLP form of business is very popular in foreign countries, it became necessary for the Government to clear its stand on allowing FDI in LLPs considering the present global economic and business development and status of India as a destination of foreign investment. To address the issue of FDI in LLP firms in India Cabinet Committee on Economic Affairs (‘CCEA’) issued a press release on 11th May 2011, proposing the regulatory outline permitting FDI in LLP. Subsequent to the proposal, the Government of India has allowed FDI in LLPs and decided to permit FDI in LLP firms, subject to specified conditions.    Accordingly, the provisions were made in ‘Circular 1 of 2011-Consolidated FDI Policy’, which became effective from April 1, 2011.

 The latest provisions related to foreign direct investment in LLP’s in India is contained in the the consolidated FDI policy (“Policy”) dated April 10, 2012 effective from April 10, 2012 issued by the DIPP, Ministry of Commerce and Industry, Government of India (“the FDI Policy”). The provisions are briefly discussed below:  

As per para 3.2.5 (a) FDI policy FDI in LLP’s will be allowed only through Government approval route. Further FDI in LLP would be allowed only in those sectors where 100% FDI is permitted under automatic route.

FDI in LLP in Trading Business

The FDI Policy specifically states that 100 % FDI is allowed under automatic route in Cash & Carry Wholesale Trading/ Wholesale Trading business and also clarifies that Cash & Carry Wholesale trading/Wholesale trading, would mean sale of goods/merchandise to retailers, industrial, commercial, institutional or other professional business users or to other wholesalers and related subordinated service providers. Further wholesale trading would include resale, processing and thereafter sale, bulk imports with ex-port/ex-bonded warehouse business sales and B2B e-Commerce.

Further, in terms of the Policy the followings are the guidelines for carry on whole sale trading:
a) Acts/Regulations/Rules/Orders of the State Government/Government Body/Government Authority/Local Self-Government Body under that State Government should be obtained;

b)     sales made by the wholesaler shall be to the valid business customers;

c)      full records indicating all the details of such sales like name of entity, kind of entity, registration/license/permit etc. number, amount of sale etc. should be maintained on a day to day basis.

d)     whole sale trade of goods would be permitted among companies of the same group. However, such WT to group companies taken together should not exceed 25% of the total turnover of the wholesale venture

e)     whole sale trade can be undertaken as per normal business practice, including extending credit facilities subject to applicable regulations.

f)  a wholesale/cash & carry trader cannot open retail shops to sell to the consumer directly.

Thus, if the proposed trading activity is  whole sale trading, it is allowed under automatic route up to 100% and  no approval will be required.  Though 100% FDI is allowed in LLP’s in case of wholesale trading that will require prior Government approval.

LIMITATIONS OF LLP FORM OF BUSINES WITH FOREIGN INVESTMENT

As per para 3.2.5 (a) of the FDI Policy FDI in LLP is allowed only through Government route. Further FDI in LLP through Government route is allowed to only those sectors where 100% FDI is allowed under automatic route under FDI policy. That is a foreign company or individual can invest in LLP in India but it requires prior Government approval.


Further, in terms of para 3.2.5 (c) of FDI Policy, an Indian company, having FDI, will be permitted to make downstream investment in a LLP only if both-the company, as well as the LLP- are operating in sectors where 100% FDI is allowed, through the automatic route and there are no FDI-linked performance conditions.

Further, in terms of para 3.2.5 (d) of the FDI Policy LLPs with FDI will not be eligible to make any downstream investments. (Downstream investments refers to further investment by LLP in which there is already foreign direct investment is there into other companies or LLP)

Further, in terms of para 3.2.5 (e) of the FDI Policy foreign Capital participation in LLPs will be allowed only by way of cash consideration. It refers that contribution in any other form than cash is not allowed.

Further, in terms of para 3.2.5 (e) of the FDI Policy investment in LLPs by Foreign Institutional Investors (FIls) and Foreign Venture Capital Investors (FVCIs) will not be permitted.

LLP is not allowed to raise External Commercial Borrowing (“ECB”). Thus LLP can not take commercial loans from its foreign partners, FII’s, banks from outside India, any financial institution outside India or any other entity outside India.

As per section 27 of the Limited Liability Partnership Act 2008 the limited liability partnership is liable if a partner of a limited liability partnership is liable to any person as a result of a wrongful act or omission on his part in the course of the business of the limited liability partnership or with its authority.

Partners Liability is unlimited for his personal acts.

LLP is more recognized for services sector. A note by the Ministry of Corporate Affairs on LLP as available on LLP website (www.llp.gov.in) recommend and describes the suitability only for the services sectors and professionals as follows:

            +      Persons providing services of any kind

+       Enterprises in new knowledge and technology based fields where the corporate form is not suited.

      +    For professionals such as Chartered Accountants (CAs), Cost and Works Accountants (CWAs), Company Secretaries (css) and Advocates, etc.

         +       Venture capital funds where risk capital combines with knowledge and expertise

         +       Professionals and enterprises engaged in any scientific, technical or artistic discipline, for any activity relating to research production, design and provision of services.

            +          Small Sector Enterprises (including Micro, Small and Medium Enterprises)

            +          Producer Companies in Handloom, Handicrafts sector

REPATRIATION OF PROCEEDS AND PROFITS

The FDI policy is silent about the repatriation of profits/ winding up proceeds of the LLP. Since FDI in LLP is allowed under Government route, repatriation and remittance matters may be subject to the discussion and approval while considering approval FDI in proposed LLP. Thus repatriation may or may not be allowed. The Government may come up with certain policies/provisions on the repatriation/ remittance of the proceeds of LLP, but nothing can be commented right now. Thus please note that remittance/ repatriation may be subject to the consideration or conditions as may be imposed upon by the Government while granting approval.

Thus in the light of this, it can be said that repatriation of profit or other proceeds depends upon the conditions as may be imposed upon by the Government while granting approval for FDI. Hence, nothing can be commented on repatriation of the proceeds under LLP form.

EXIT OPTION

Exit under LLP form is possible in the following manners:

              a)       Sale of partner’s interest to one of the party subject to condition of minimum two members.

              b)       Winding up of LLP

Please note that sale of Partner’s interest by one party (partner) to another or to any third party in LLP is Governed by the LLP agreement, as  LLP act does not restrict transfer of partner’s interest. Hence any party is allowed to transfer its interest in LLP subject to LLP agreement.

It is to be further noted that repatriation of the amount of out exit proceeds is not specifically allowed under the FDI policy and no clear guidelines have been issued in this regard. So repatriation may be subject to the conditions as may be imposed upon by the Government while granting approval. Further the Government may come up with certain specific provisions for repatriations of proceeds of LLP which may or may not allow repatriation.

TAXATION

Tax structure on LLP’s is as follows:

Tax on Profits:                      30%
Education cess:                     3 % on income-tax (inclusive of surcharge, if any)

Minimum Alternative Tax

MAT is levied @ 18.5 percent of the adjusted book profits in the case of those LLP’s    where income-tax payable on the taxable income according to the normal provisions of the Income-tax Act, 1961 (the Act), is less than 18.5 percent of the adjusted book profit.
Further education cess is applicable @ 3 percent on income-tax (inclusive of surcharge, if any)

Note:
1.         No surcharge is applicable

2.      No tax is applicable on distribution of profits amongst the partners. However the salary and remuneration as paid by the LLP to the partners is taxable in the hands of partners.

From taxation point of view LLP may be an economic structure as compared to a company as there is no dividend distribution charge on the profits distribution of LLP. Further if the profit exceeds the above mentioned limited LLP will also save 10% surcharge. The LLP can be said to have two tax advantage over company i. e. saving of dividend distribution tax and surcharge.

However the Government may consider for imposition of taxes on distributed profits of LLP like dividend distribution tax as in company. No such proposal is available till now but there may be possibilities and a provision of such tax may come in future.

To conclude, it can be said that LLP is a new concept in India and hence, most of the laws (e. g. labour laws, environmental laws, corporate laws) are not clear about its applicability on this form, which may or may not be applicable depending upon the Government clarification from time to time, also which may be favourable or unfavourable for LLP, while company is a well established form and specific and clear provisions are provided in various statues, so no question of disputes. Therefore, Government still need to bring more clarity in the laws regulating LLP and FDI related provisions in the LLP form of business.

Note: the views of the author are personal and do not constitute any kind of opinion.

Wednesday, August 22, 2012

LAW AND PROCEDURE OF REMOVAL OF AUDITOR(S) BEFORE EXPIRY OF HIS TERM


Law and Procedure of removal of auditor(s) before expiry of his term under Companies Act 1956


Appointment, duration and removal of the auditors are governed by Section 224 of the (Indian) Companies Act, 1956 (the “Act”).

      Section 224(1) provides that every company is required to appoint an auditor or auditors at each annual general meeting (“AGM”) who shall hold office till the conclusion of the next AGM. Section 224(1) of the Act reads as under:

     “Every company shall, at each annual general meeting, appoint an auditor or auditors to hold office from the conclusion of that meeting until the conclusion of the next annual general meeting and shall, within seven days of the appointment, give intimation thereof to every auditor so appointed

        Provided that before any appointment or re-appointment of auditor or auditors is made by any company at any annual general meeting, a written certificate shall be obtained by the company from the auditor or auditors proposed to be so appointed to the effect that the appointment or re- appointment, if made, will be in accordance with the limits specified in sub- section (1B).”


      In terms of Section 224(7) of the Act, an auditor appointed in an AGM may be removed from the office before the expiry of his term by the company only in general meeting after obtaining the previous approval of the Central Government in this behalf except as provided in proviso to section 224(5).

Section 224(7) of the Act reads as under:

       “Except as provided in the proviso to sub- section (5), any auditor appointed under this section may be removed from office before the expiry of his term only by the company in general meeting, after obtaining the previous approval of the Central Government in that behalf.”

Section 224(5) of the Act reads as under:

      “The first auditor or auditors of a company shall be appointed by the Board of directors within one month of the date of registration of the company; and the auditor or auditors so appointed shall hold office until the conclusion of the first annual general meeting: Provided that-

(a)     the company may, at a general meeting, remove any such auditor or all or any of such auditors and appoint in his or their places any other person or persons who have been nominated for appointment by any member of the company and of whose nomination notice has been given to the members of the company not less than fourteen days before the date of the meeting; and

(b)    if the Board falls to exercise its powers under this sub- section, the company in   general meeting may appoint the first auditor or auditors.”


      In the light of the aforesaid, an auditor(s) may be removed before the expiry of his/their term i.e. before the conclusion of the next AGM who has been appointed in the preceding AGM by the members/shareholders;

(i)     only in the general meeting of the company; and

(ii)   after obtaining the previous approval from the Central Government.

        Further, Section 225 of the Act provides that a special notice shall be required for a resolution at an extra ordinary general meeting (“EGM”) and/or AGM appointing as auditor a person other than a retiring auditor, or providing expressly that a retiring auditor shall not be re-appointed.

Section 225 of the Act reads as under:

“(1)  Special notice shall be required for a resolution at an annual general meeting appointing as auditor a person other than a retiring auditor, or providing expressly that a retiring auditor shall not be re-appointed.

(2)     On receipt of notice of such a resolution, the company shall forthwith send a copy thereof to the retiring auditor.

(3)    Where notice is given of such a resolution and the retiring auditor makes with respect thereto representations in writing to the company (not exceeding a reasonable length) and requests their notification to members of the company, the company shall, unless the representations are received by it too late for it to do so,—

(a)    in any notice of the resolution given to members of the company, state the fact of the representations having been made; and

(b)    send a copy of the representations to every member of the company to whom notice of the meeting is sent, whether before or after the receipt of the representations by the company,

      and if a copy of the representations is not sent as aforesaid because they were received too late or because of the company's default the auditor may (without prejudice to his right to be heard orally) require that the representations shall be read out at the meeting

    Provided that copies of the representations need not be sent out and the representations need not be read out at the meeting if, on the application either of the company or of any other person who claims to be aggrieved, the Central Government is satisfied that the rights conferred by this sub-section are being abused to secure needless publicity for defamatory matter; and the Central Government may order the company's costs on such an application to be paid it in whole or in art by the auditor, notwithstanding that he is not a party to the application.

(4)    Sub-sections (2) and (3) shall apply to a resolution to remove the first auditors or any of them under sub-section (5) of section 224 or to the removal of any auditor or auditors under sub-section (7) of that section, as they apply in relation to a resolution that a retiring auditor shall not be re-appointed.”

        In addition to the aforesaid, a special notice is required to be given in terms of Section 190 of the Act, which reads as under:

“(1)  Where, by any provision contained in this Act or in the articles, special notice is required of any resolution, notice of the intention to move the resolution shall be given to the company not less than fourteen days before the meeting at which it is to be moved, exclusive of the day on which the notice is served or deemed to be served and the day of the meeting.

(2)    The company shall immediately after the notice of the intention to move any such resolution has been received by it, give its members notice of the resolution in the same manner as it gives notice of the meeting, or if that is not practicable, shall give them notice thereof, either by advertisement in a newspaper having an appropriate circulation or in any other mode allowed by the articles, not less than seven days before the meeting.”

         In the light of the above discussions, the procedure to remove the Auditor before the expiration of its term can be summarized as hereunder:

(i)      a special notice under Section 190 is required to be given to the Company by a member/shareholder;

(ii)           an extra ordinary general meeting of the members/shareholders (“EGM”) is required to be held in which the resolutions related to the removal of the Auditor will be passed by the members of the company; and

(iii)     an application is to be made to the Central Government (in the present case, the Regional Director) with concrete reasons explaining the facts and circumstances of seeking the removal of the Auditor before expiration of the term of its office.  

        Once the Central Government approval is obtained, the present auditor is deemed to have been removed from the office.

The brief step plan for removal of an auditor before the expiry of his term is as follows:


Step I:

      A special notice of not less than 14 days is to be given by a shareholder to the Company for removal of the Auditor and appointment of new auditor subsequent to the removal of Auditor

Step II

        Obtaining a certificate in writing from the new auditor to the effect of his eligibility to act as auditor, if appointed;

Step III

Holding a board meeting of the Company to pass the necessary resolutions to:


(i)             consider the special notice for removal of Auditor given by the shareholder and to decide the day, time and place[1] for calling the EGM;

(ii)               to approve the draft notice of EGM and explanatory statement thereof and to authorize the company secretary or director of the Company to issue the notice;

(iii)             to authorise the director or manager of the Company to make an  application to the Central Government under Section 224(7) for removal of the Auditor; and

(iv)          to authorise the company secretary or director of the Company ndia to inform the Auditor of the decision of the board of his removal.


Step IV

         Intimate the Auditor of his removal in writing along with a copy of the special notice as given by the Shareholder.

Step V

Holding of EGM to pass the necessary resolutions to:

(i)                 approve removal of the Auditor from the office of statutory auditors of the Company;

(ii)               appointment of new auditors subject to approval of regional director to hold office until the conclusion of next AGM;

(iii)             to authorise the director, company secretary or manager of the Company to intimate the new auditor of his appointment; and

(iv)             to authorise the director or manager of the Company to make an application to the Central Government (Regional Director) under Section 224(7) of the Act for removal of the Auditor.

Step VI

     Making application to the Regional Director (Central Government) in whose jurisdiction the registered office of the Company ndia falls in e-Form No. 24A along with the following documents:

-           Copy of ordinary resolution;
-           Copy of special notice under section 224(7) of the Act;
-           Copy of the representation, if any, made by the Auditor. and
-           Grounds of making application for removal of Auditor.

Step VII

      Upon receipt of approval from regional director intimate the new auditor of his appointment as an auditor of the Company to hold the office until the conclusion of next Annual General Meeting.



Saturday, August 18, 2012

Buy Back and Companies Act 1956



Buy back refers to buying back its own securities by a company. The provisions regulating buy back of shares and specified securities are contained in Section 77A, 77AA and 77B of the Companies Act, 1956 and Private Limited Company and Unlisted Public Limited Company (Buy-Back of Securities) Rules, 1999. The provisions regarding buy back is as follows:

1.         Pre and Post Buy Back Conditions:
The following terms and conditions are required to be fulfilled by a company in order to become eligible to buy-back its own securities:—

(i)    There must be a provision in the Articles of Association authorizing the company to buy-back its own shares and specified securities; otherwise the Articles must be amended by a special resolution to incorporate a suitable provision.

(ii)      All the shares or other specified securities involved for buy-back must be fully paid-up.

(iii)      After the buy-back, the debt (secured and unsecured) of the company namely the amount of secured and unsecured debts shall not be more than twice the paid-up capital and free reserves.

(iv)      In terms of section 77AA, where a company purchases its own shares out of free reserves, then a sum equal to the nominal value of the share so purchased shall be transferred to the capital redemption reserve account referred to in clause (d) of the proviso sub-section (1) of section 80 and details of such transfer shall be disclosed in the balance sheet.

(v)      The buy back shall be completed within 12 months from the date of passing the Board Resolution or Shareholders Resolution as the case may be.

2.         Modes of Buy Back.
            
The buy back may be:

            (a)        from the existing security holders on a proportionate basis; or

(b)       from the open market; or

(c)        by purchasing the securities issued to employees of the company pursuant to a scheme of stock option or sweat equity.

3.         Sources of buy back:

As per section 77A (1) buyback of shares and specified securities can be made only out of the following sources:

                                i.            free reserves of the company; or

                             ii.            the securities premium account; or

\                           iii.            by the proceeds of any shares or other specified securities:

Further as per the provisions of section 77A (1) buy-back of any kind of shares or other specified securities shall be not be made out of the proceeds of an earlier issue of the same kind of shares or same kind of other specified securities.

4.         Buy Back ceiling per financial year:

In terms of clause (c) of sub section (2) of section 77A the Company can buy back its own shares and specified securities, up to 25% of its paid up capital and free reserves in a financial year provided that the buy-back of equity shares in any financial year shall not exceed twenty-five per cent of its total paid-up equity capital in that financial year.

It is pertinent to note further that as per clause (b) of sub section (2) of section 77A, no offer of buy-back shall be made within a period of three hundred and sixty-five days reckoned from the date of the preceding offer of buy-back, if any.

5.         Approval Required:

The buyback can be made with the approval of the Board of Directors and Shareholders.

(i)       The company can buy back its own shares up to a maximum of  10% of its paid up capital and free reserves by passing a resolution only in the Board Meeting.

(ii)     If the Buy Bank is more than 10% and up to a maxim of 25% of it’s paid up capital and free reserves, it required the consent of Shareholders by way of Special Resolution to authorizing the directors for buy back.

6.         Prohibition for buy-back in certain circumstances.—

Section 77B provides that a company shall not, directly or indirectly purchase its own shares or other specified securities—

                    i.            through any subsidiary company including its own subsidiary companies; or
                 
        ii.            through any investment company or group of investment companies; or
               
      iii.            If a default, by the company, in repayment of deposit or interest payable thereon, redemption of debentures or preference shares or payment of dividend to any shareholder or repayment of any term loan or interest payable thereon to any financial institution or bank, is subsisting.

          iv.           In case such company has not complied with the provisions of sections 159, 207 and 211. i.e defaulted in filing annual return, defaulted in distributing dividends within thirty days of its declaration and default in filing profit and loss account and balance sheet with the Registrar of Companies.

7.         Procedural Aspect of Buy Back of Shares and Specified Securities:

The following steps shall be taken for buying back the securities of a company:


                       i.      Holding Board Meeting or Shareholders Meeting as the case may be and Passing Board Resolution/ Shareholder’s Special Resolution:

If the proposed buy back is not more than 10% of the total paid up equity share capital and free reserves of the company, Board Meeting shall be held to approve the scheme of buy back. If buy back is more than 10% of the total paid up equity share capital and free reserves of the company, the Board Meeting shall be conducted to decide about the date time and place for calling extra ordinary general meeting (“EGM”) of the company and finalizing the notice for calling EGM. Board Resolution shall be passed to convene an extraordinary general meeting. The EGM shall be convened by serving a notice and annexing an explanatory statement thereto. An explanatory statement shall have to be annexed to the said notice pursuant to Section 173 of the Act stating the following:

(a)           a full and complete disclosure of all material facts;

(b)          the necessity for the buy-back;

(c)           the class of security intended to be purchased under the buy-back;

(d)          the amount to be invested under the buy-back; and

(e)           the time limit for completion of buy-back.

In the EGM the special resolution approving the buy back and authorizing directors shall be passed.

(ii)   Filing of the special resolution approving the Buy-back with the Registrar of Companies.
        
      The copy of special resolution shall be filed along with Form No. 23 within 30 days of passing special resolution.
       
      In addition to form 23 there are certain other filings to be made with the ROC. There is no statutory time period prescribed for the same. However, we recommend that such filings be made within the same period as prescribed for the filing of the special resolution. Such other filings are:
   
    (a)  Draft letter of offer (“LoF”) containing disclosures in the form as   prescribed in Annexure C. Please note that once the draft letter of offer has been filed with the ROC, it shall not be withdrawn.
     
     (b)  Declaration of solvency in Form- 4A prescribed under the Companies (Central Government General Rules and Forms), 1956 and Section 77A (6) of the Act.

(iii)  Dispatch of Letter of Offer (“LoF).

LoF shall be dispatched to the shareholders immediately after filing the same with RoC.

(iv)  Offer period for the members.

The offer shall remain open for a period of not less than 15 (fifteen) days and not exceeding 30 (thirty) days from the date of dispatch of LoF. Further the offer shall also testify that the company has sufficient funds available for the Buy-back.

(v)   Acceptance/Rejection of offer.

The company shall not issue any shares including by way of bonus till the date of the closure of the offer.

The company shall, immediately after the date of closure of the offer, open a special bank account and deposit therein, such sum as would make up the entire sum due and payable as consideration for the Buy-back.
Further verification of the offers received to be completed within 15 days from the date of closure of the offer. The shares lodged till such time shall be deemed to be accepted unless a communication of rejection has been made within 21 days of the closure of the offer.

(vi)  Payment to the shareholder (s) for the Buy-back

Make payment from the special bank account in cash or bank draft / pay order to the shareholder (s) whose offer has been accepted or return the share certificate to the shareholder (s) forthwith within 7 days of the closure of offer. Company shall also maintain a register of shares bought back by the company in the form as prescribed.

(vii)  Extinguishment of share certificate (s)

Extinguish and physically destroy the share certificates so bought back in the presence of company secretary in whole time practice and maintain a record of the same in the form as prescribed.
          
          (viii)   Filing of certificate of compliance as to the extinguishment of share certificate.
                  
                   File the certificate duly verified by 2 (two) whole time directors including the managing director and company secretary in whole time practice to this effect.
          
            (ix)   Filing of return with the RoC as to the Buy-back.
            
               Return is to be filed in the form as prescribed within 30 (thirty) days of payment to the shareholders (s).