[Shikha Rawal is an Associate at Shardul Amarchand Mangaldas & Co.]
“Demonetization” is a topic that has evoked considerable interest and strong opinions across the board since it was announced a year ago, i.e. on November 8, 2016. The goal of demonetization was to eliminate the unaccounted cash transactions, and thereby strengthen the economy. Differences of opinion abound on whether demonetization has brought about any effective change, or whether it merely attracted a great deal of publicity.
The purpose of this post is to outline a comprehensive list of the steps undertaken by the various regulatory bodies under the Companies Act, 2013 (CA, 2013) as a natural consequence of demonetization.
(a) Disclosure of demonetization transactions in the balance sheet and audit report of companies: By way of a notification dated March 30, 2017, the Central Government amended Schedule III of the CA, 2013 requiring a disclosure of the details of Specified Bank Notes (SBN) held and transacted during the period from November 8, 2016 to December 30, 2016. For the purposes of this notification, the term ‘Specified Bank Notes’ would have the same meaning as in the notification of the Government of India, in the Ministry of Finance (MOF), Department of Economic Affairs number S.O. 3407(E), dated November 8, 2016. The additional disclosure mandated by the Government is intended to promote greater transparency and investor confidence.
(b) Striking off names of companies by the Registrar of Companies (RoC): A public notice in Form STK-5 is provided by the RoC. Under this, 11,285 companies which have not carried on business or operation for a period of two immediately preceding financial years and that too without having applied for obtaining a status of dormant company under section 455 have been recommended by the RoC to be struck-off under section 248 of the CA, 2013. Such a drastic step would operate as a forewarning to other companies to ensure that they file the financial statements under the time prescribed in the CA, 2013 if they are to continue on the register of companies maintained by the RoC.
(c) Cancellation of registration of companies: In accordance with the statement released by the Ministry of Corporate Affairs (MCA), the registration of 2,09,032 defaulting companies has been cancelled. Further, the MOF has instructed banks to restrict operations via bank accounts of such defaulting companies or their authorized representatives.
In addition to the above, the MCA has created a category of ‘companies under alert’ on its website. This specific category encompasses following sub-categories:
(i) Multi-level marketing (MLM) companies (where complaints are received against companies engaged in MLM/Chit fund activities);
(ii) Vanishing companies (list of vanishing companies);
(iii) Disqualified directors (list of persons who are not eligible to be appointed as a director);
(iv) Year-wise list of defaulter companies (list of companies who have defaulted in filing annual financial statements and annual return);
(v) Defaulter directors and defaulter secretaries (directors associated with defaulting companies);
(vi) Dormant companies (list of companies which failed to file annual filings for last 3 years);
(vii) Companies and limited liability partnerships under the process of striking-off.
(d) Disqualification of directors: In accordance with the statement released by the MCA, 1,06,578 directors have been disqualified from acting as directors under section 164(2)(a) of the CA, 2013 as on September 12, 2017. Section 164 (2)(a) provides that a person shall not be eligible for appointment as a director if the said person has not filed the financial statements for a continuous period of three financial years. The Government has requested Reserve Bank of India to freeze the accounts of the defaulting companies who have exceeded the time limit for filing financial statement and annual returns under CA, 2013. A list of all disqualified directors who have been disqualified under section 164(2) (a) has been uploaded on the MCA website for each state.
(e) Sharing of information available with other governmental agencies for further action and inquiry: Mechanism for sharing of information between various law enforcement agencies has been put in place under the Regional Economic Intelligence Council (REIC) and Central Economic Intelligence Bureau (CEIB) forums. The MCA is analysing the data available with the RoC to identify the directors and the beneficial interest held by such directors under the garb of such shell companies. Complete profiles of directors such as their background, antecedents and their role in the operations or functioning of these companies are being compiled in collaboration with the enforcement agencies. The bank accounts of such defaulting companies are being closely observed to determine if any money laundering activities are carried out under by such companies.
(f) Prohibition of multi-layering of corporate structures: The MCA, by way of its notification dated September 20, 2017, prescribed the Companies (Restriction on number of layers) Rules, 2017 (Restriction of Layers Rules). From the date of the commencement of Restriction of Layers Rules, no company other than a banking company, a systemically important non-banking financial company, an insurance company or a government company (Exempted Companies) can have more than two layers of subsidiaries. For computing the number of layers under the Restriction of Layers Rules, a layer of one or more wholly owned subsidiaries is not be taken into account.
Each company other than the Exempted Companies is required to disclose the number of layers of subsidiaries in excess of the layer in Form CRL-1 within a period of 150 days from the date of publication of the Restriction of Layers Rules. Such information would then be examined by the MOF to monitor the abuse of corporate structure via multi layering.
(g) ‘Task Force on shell companies’: A Task Force on shell companies’ under the Joint Chairmanship of Revenue Secretary and Secretary, Ministry of Corporate Affairs was constituted on February 2017 for effectively tackling the malpractices undertaken by the shell companies. Five meetings of the task force have already taken place. Key findings of the meetings can be stated as under:
(i) Preparation of a comprehensive digital database of shell companies and their associates as identified by various law enforcement agencies;
(ii) Filing of complaints in criminal courts in respect of non-genuine transactions where it has been detected that shell companies/entities have been used as conduits by beneficiaries;
(iii) A nationwide search in 16 states conducted by the Enforcement Directorate in respect of shell companies and related professionals who were behind the creation and operation of these Companies;
(iv) 30 cases against 201 shell companies registered by the CBI and 17 cases where charge-sheets have been filed;
(v) Removal of 1, 62,618 companies by the RoC under section 248 of the CA, 2013.
(h) Notification of section 212 of the CA, 2013: The MCA has notified sub-sections (8), (9) and (10) of section 212. Under this section, if a director, additional director or assistant director of Serious Frauds Investigation Office (SFIO) has, on the basis of material in his possession, reason to believe that any person is guilty of an offence punishable under this section then he may arrest the person and inform him the grounds for such arrest. The person arrested under this section is to be then presented to the Judicial Magistrate or a Metropolitan Magistrate, having jurisdiction.
(i) High-level committee constituted for revamping the disciplinary systems of professionals: Professionals such as Chartered Accountants, Company Secretaries and Cost Accountants associated with defaulting companies and involved in illegal activities have been identified by the MCA. The consequent action to be taken by the professional institutes such as the Institute of Chartered Accountants of India (ICAI), Institute of Chartered Secretaries of India (ICSI) and the Institute of Cost Accountants of India (ICOAI) against such identified professionals is also being monitored.
(j) Constitution of a National Financial Regulation Authority (NFRA): NFRA is modelled on the lines of the Public Company Accounting Oversight Board (PCAOB) in the US and the Financial Reporting Council (FRC) in the UK. Both are examples of outside regulation, and the NFRA is intended to achieve a similar purpose. Section 132 of the CA, 2013 provides for the constitution of an NFRA, an independent body to regulate matters relating to accounting and auditing standards in the CA, 2013. The NFRA shall make recommendations to the Central Government on the formulation of the accounting and auditing policies and standards adopted by the companies, monitor and enforce the compliance of such standards, oversee the quality of service of professionals and suggest measures for improvement of quality of services and other related functions. This section has not yet been enforced and section 210-A of the erstwhile Companies Act, 1956 is still applicable.
(k) Dummy directors: While allotting a Director Identification Number (DIN), as a part of the registration process, proof of identification such as PAN card / Aadhar card is to be submitted. Further, biometric technology is implemented to check for dummy directors, if any.
Although these measures were taken in the wake of the demonetization efforts, they have broader implications under corporate law and governance. The steps taken in establishing appropriate governance systems and setting deterrent examples such as disqualifying the directors and striking off the names of defaulting companies only further take matters in that direction. However, introducing such governance measures and policies can be useful only if the government is also equipped to resolve issues arising out of the same. For that, they must not merely constitute knee-jerk reactions to pressing scenarios. It remains to be seen whether the slew of changes introduced would benefit the corporate sector, and how that would impact the ‘ease of doing business’ in India as the efforts considerably expand the scope of state regulation of the corporate sector.
– Shikha Rawal