Law Study Guide: May 2022

Prospectus: Definition, Golden Rule of Framing and Liability on Mis-statement - Companies Act 2013

Prospectus under Companies Act 2013

Section 2(70) of the Companies Act 2013 defines prospectus‖ means any document described or issued as a prospectus and includes a red herring prospectus referred to in section 32 or shelf prospectus referred to in section 31 or any notice, circular, advertisement or other document inviting offers from the public for the subscription or purchase of any securities of body corporate.

Golden Rule of Framing Prospectus

1. The prospectus must be an honest statement of the company’s profile; there must be no misleading, ambiguous or erroneous reference to the company in its prospectus.

2. Every important aspect of a contract of the company should be clarified.

3. The contents of the prospectus should conform to the provision of the Companies Act.

4. The restrictions on the appointment of directors must be kept in mind.

5. The conditions of civil liability as laid down must have strictly adhered to issue and registration of prospectus or legal requirement regarding the issue of the prospectus.

Liability on mis-statement in a Prospectus

Criminal Liability on mis-statement in a Prospectus

Section 34 of the Companies Act fixes criminal liability on mis-statement in a prospectus to every person who have authorised such wrong or untrue or misleading information on the prospectus.

Civil Liability on mis-statement in a Prospectus

Section 35 of the Act fixes the civil liability on wrong or untrue or misleading information on a prospectus to the directors, including acting directors and the promoters of the company at the time of publication of the prospectus

Leading Case Law: Rex v. Kylsant (1932)

This case is the classic example of how a "truth" can still be a "lie" if it is a half-truth.

Facts: The prospectus of Royal Mail Steam Packet Co. stated that the company had paid dividends every year between 1921 and 1927, implying it was highly profitable.
The Reality: While the statement was technically true, the dividends were actually paid out of old tax reserves and non-recurring items, not from current trading profits. The company was actually losing money.
Ruling: Lord Kylsant (the Chairman) was held liable. The court ruled that the prospectus was misleading because it suppressed the material fact that the company was making trading losses.

Holding Company

Q. Holding Company [2019 - 4 marks]

Holding Company

Section 2(46) of the Companies Act 2013 defines holding company as, in relation to one or more other companies, means a company of which such companies are subsidiary companies.

In general terms, a holding company is a type of financial organization that owns a controlling interest in other companies, which are called subsidiaries. The holding companies generally do not perform any business of manufacturing or selling.

Forfeiture of Shares under Companies Act 2013

Q. What is forfeiture of shares. [2019 - 4 marks]

Forfeiture of shares

Section 28 to 30 of the Companies Act 2013 provides the process of forfeiture of shares.

As per section 28 of the act, if a member fails to pay any call or installment there of by the stipulated due date, a notice is to be served on the member to that effect.

Section 29 of the act describes the process and contents of the notice. A time period as Articles of Association of the company is to be given,

Section 30 of the act empowers the company to forfeit the shares of the member if he fails to comply with the notice served/

The forfeited shares may be sold to others by the company. The members still remain liable to pay any dues as on the date of forfeiture of the shares

Powers and Duties of Auditor of Company

Q. State the powers and duties of Auditor of Company. [2016 - 4 marks]

Powers and Duties of Auditor of Company

Section 143 of the Companies Act 2013 provides the powers and duties of auditors of company as discussed below.

Rights of Auditor

Right to access to the books of account and vouchers [Sec. 143(1)]
Right to get information and explanation [Sec. 143(1)]
Right to visit branch offices of a company and access to branch account
Right to receive notice and attend general body meeting
Right to make representation
Right to report to members
Right to sign audit report
Right of seeking opinion of an expert
Right to receive remuneration

Duties of Auditor

Report to members [Sec.143(2)]
Examination of accounts
Reporting on true & fair view
Duty as to Enquiry [Sec.143(1)]
Report as to additional matters
Duty to sign report
Duty as to statutory report
Duty as to prospectus [Sec.56]
Duty to assist investigation

Difference between Public Limited and Private Limited Company

Q. Distinguish between Public Company and Private Company. [2016 - 4 marks, 2019 - 10 marks]

Differences between Public Limited Company and Private Limited Company

1. Number of Directors: For a Private Limited Company the minimum number of directors are 2 whereas for a Public Limited Company the minimum number directors are 3.

2. Number of Members: Private limited company may have minimum 2 and maximum 50 members. Public limited company minimum 7 members. There is no limit to the maximum number of members.

3. Transferability of Shares: Shares of private limited company are non transferable. There is no restriction in transfer of share of public limited company.

4. Issue of Shares: Public limited company can raise capital through public issue of shares and debentures. Private limited company can not do so.

5. Naming Convention: It is mandatory to add Private to the name of a private limited company. In case of public limited company, it is mandatory to add the word Public limited in the name,

6. Capital: For public limited company minimum paid up capital is 5 lakh rupees. For private limited company it is one lakh rupees.

Difference between Share Certificate and Share Warrant

Q. Distinguish between Share Certificate and Share Warrant. [2016 - 4 marks]

Distinguish between Share Certificate and Share Warrant.
1. Share certificate is a documentary evidence of possession of the shares. Share warrant is a document of title.
2. Share certificates are issued against partially paid up shares also. Share warrant is issued against fully paid up shares only.
3. It is compulsory to issue share certificates as soon as shares are allotted. Same is not true for share warrants.
4. Share warrants are only issued by the Public Limited companies.

Sweat Equity Shares

Section 2(88) of the Companies Act 2013, sweat equity shares means such equity shares as are issued by a company to its directors or employees at a discount or for consideration, other than cash, for providing their know-how or making available rights in the nature of intellectual property rights or value additions, by whatever name called.

Section 54 of the act makes it sure that the shares are issued on a special resolution of the company which can be issued only after completing one year of business by the company.

Debenture : Definition, Features, Types and difference with shareholding

Definition of Debenture

A debenture is a debt instrument issued by a company to acknowledge a loan. Under Section 2(30) of the Companies Act, 2013, a debenture includes debenture stock, bonds, or any other instrument of a company evidencing a debt, whether constituting a charge on the assets of the company or not.

In simpler terms, while a shareholder is an owner of the company, a debenture holder is a creditor. Debentures typically carry a fixed rate of interest (called a coupon rate) which must be paid regardless of whether the company makes a profit.

Features of Debenture

1. There is a fixed rate of interest

2. These are long term instruments

3. May be secured or unsecured

4. Interest on debentures are payable even if there is a loss

Kinds of Debentures

Companies issue various types of debentures to suit the needs of different investors and their own financial requirements. They can be classified as follows:

1. On the Basis of Security

Secured (Mortgage) Debentures: These are secured by a "charge" on the fixed assets of the company. If the company fails to repay, the holders can recover their money by selling the secured assets. Under the 2013 Act, most debentures must be secured.
Unsecured (Naked) Debentures: These carry no charge on the company’s assets. The holders are treated as ordinary unsecured creditors in the event of liquidation.

2. On the Basis of Convertibility

Convertible Debentures: These give the holder the option to exchange their debentures for equity shares of the company after a specified period.
- Fully Convertible (FCDs): The entire value is converted into shares.
- Partly Convertible (PCDs): A portion is converted into shares, while the rest remains as debt.
Non-Convertible Debentures (NCDs): These cannot be converted into shares. They are pure debt instruments and usually offer a higher interest rate to compensate for the lack of conversion benefits.

3. On the Basis of Permanence (Redemption)

Redeemable Debentures: These are issued for a specific period, at the end of which the company must repay the principal amount to the holders.
Irredeemable (Perpetual) Debentures: These have no fixed date for repayment. They are repayable only upon the winding up of the company or on the occurrence of a specific extreme event. (Note: Indian law generally restricts the issuance of perpetual debt by companies).

4. On the Basis of Negotiability (Registration)

Registered Debentures: These are made out in the name of a specific person. Their names and addresses are recorded in the company’s Register of Debenture Holders. Transferring these requires a formal transfer deed.
Bearer Debentures: These are like currency; they are payable to the "bearer" or whoever holds the document. They are transferable by mere delivery, and the company does not maintain a record of the individual owners.

Key Provisions under the Companies Act, 2013

Voting Rights (Section 71): No company is permitted to issue any debentures that carry voting rights. This ensures that creditors do not interfere in the internal management of the company.
Debenture Redemption Reserve (DRR): Companies are required to create a DRR account out of their profits to ensure there are sufficient funds available to repay the debt upon maturity.
Debenture Trustee: If a company issues a prospectus to more than 500 people, it must appoint a Debenture Trustee to protect the interests of the debenture holders.

Comparison: Shares vs. Debentures

Feature	Shares	Debentures
Status	Holder is an Owner.	Holder is a Creditor.
Return	Dividend (paid only out of profit).	Interest (a charge against profit).
Voting Rights	Usually carries voting rights.	No voting rights permitted.
Priority	Paid last during winding up.	Paid before shareholders.
Security	Never secured.	Usually secured by a charge on assets.

Difference between Share Holders and Debenture Holders

1. Shares are the company owned capital. Debentures are the borrowed capital of the company.

2. Shareholders are the owner of the company. Debenture holders are the creditors to the company.

3. Shareholders get dividend if there is a profit. Debenture holders get fixed rate of interest whether there is profit or not.

4. Shareholders are liable for the loss of the company. Debenture holders are not liable for the loss of the company.

5. Shareholders possess voting rights. Debenture holders do not have such right.