SAT on the Nature of Offering of Fully Convertible Debentures

[Aastha Agarwalla is a 2nd year law LLB student at the Campus Law Centre. Faculty of Law, University of Delhi]

In order to streamline the process for access to capital for a company, the Companies Act, 2013 prescribes various funding options by issuing various kinds of securities. Depending upon the specific circumstances and requirements, a company pursues a viable financing option ranging from of either debt, equity, or a combination of both.

To raise capital through issuance of convertible debt instruments, a company has to comply with the provisions of section 71 of the Act read with rule 18 of the Companies (Share Capital and Debentures) Rules, 2014. However, it raises a noteworthy point whether compliances stipulated for further issue of shares and private placement norms under the Act will trigger application even in the case of issuance of convertible debentures. Earlier this year, aimed at settling the above position of law, the Securities Appellate Tribunal (SAT) in Canning Industries Cochin Ltd. v. Securities and Exchange Board of India categorically held that the rights issue of unsecured fully convertible debentures to all the existing  equity  shareholders  cannot  be  considered  either  a  private  placement  nor  a  deemed public offer and, hence, accommodated section 62(3) of the Act as an independent provision to issue fully convertible debentures to the existing shareholders.

In the post, the author critically analyses the reasoning of the aforesaid judgment rendered by SAT and the flawed interpretation of sections 42 and 62 of the Act and the rules made thereunder.  

Background to the Case

Canning Industries Cochin Ltd., an unlisted public company, passed a special resolution under sections 62(3) and 71 of the Act to issue 1,92,900 unsecured fully convertible debentures (FCDs) to its 1,929 shareholders, with a condition that there exists no right to renounce the offer to any other person. However, only 335 shareholders subscribed to the offering. Consequently, one disgruntled shareholder filed complaints before the Securities and Exchange Board of India (SEBI) and the National Company Law Tribunal (NCLT) alleging that the company has made a public issue of securities without complying with the applicable provisions of the Act. Thereafter, SEBI undertook an enquiry to ascertain whether the company had duly complied with the provisions of the Act. On 18 March 2019, a whole time member of SEBI passed an order which held that the offer of FCDs made by the company is a ‘deemed public issue’ under section 42(4) of the Companies Act read with rule 14(2)(b) of the Rules, as the offer was made to more than 200 shareholders and, thus, directed the company to comply with prescribed provisions of ‘public issue’ in the Act.

Aggrieved by the order of SEBI, the company appealed before the SAT wherein the company contended that the issuance of FCDs was a neither rights issue (as the issue was not made on a proportionate basis), nor was it private placement, and that the issue falls under section 62(3) of the Act, which has not been considered by SEBI. The SAT, appreciating the nuances pertaining to sections 42 and 62 of the Act, overruled the impugned order passed by SEBI. Notably, the SAT held that a rights issue of FCDs is not a ‘private placement’ of securities as offer of shares to the company’s shareholders cannot be termed as an offer to a ‘select group of persons’. The expression ‘select group of persons’ means ‘… an offer made privately such as to friends and relatives or a selected set of customers distinguished from approaching the general public or to a section of the public by advertisement, circular or prospectus addressed to the public.’ Hence, the restriction of subscription of shares to 200 persons or more in the case of private placement of securities envisaged under section 42 of the Act is not applicable in the instant case.

Furthermore, on perusal of section 62 of the Act, the SAT validated the transaction of issuance of FCDs by the company by laying down that section 62(3) is an exception to section 62 of the Act.  Section 62(3) of the Act reads as follows:

Nothing in this section shall apply to the increase of the subscribed capital of a company caused by the exercise of an option as a term attached to the debentures issued or loan raised by the company to convert such debentures or loans into shares in the company: Provided that the terms of issue of such debentures or loan containing such an option have been approved before the issue of such debentures or the raising of loan by a special resolution passed by the company in general meeting.’

In nutshell, the SAT heldthat section 62(3) of the Act is fully applicable in instance case, as the company duly complied with it by passing the special resolution; thus issuance of FCDs by the company cannot be termed as a public issue or a private placement. Hence, the SAT established that a company issuing FCDs is not mandated to comply with any additional requirement of public issue or private placement specified under section 23 and 42 of the Act, respectively.

SAT Judgment: Introducing a Baffling Conundrum?

While adjudicating on the matter whether issuance of FCDs to the existing shareholders would be a deemed public issue under section 42 of the Act, the SAT has completely overlooked various important legal provisions and relevant judgments by the Supreme Court of India. Section 42 of the Act read with rule 14(2)(b) of the Rules clearly postulates that, if the allotment of securities to a selected group of persons exceeds the prescribed limit (i.e. 200 persons in a financial year), then it will be deemed to be a ‘public issue’ and the company has to follow the procedure of public issue framework. Furthermore, the Supreme Court in Sahara India Real Estate Corporation v. SEBIobserved that an invitation to subscription made to more than a prescribed number of persons ceases to be a private placement. Hence, the SAT has clearly flouted the extant legal framework on ‘deemed public issue’ by excluding the issued FCDs by the company to 335 shareholders from the ambit of section 42 of the Act.

Separately, the SAT has taken a complete different view in the instant matter, wherein it treats section 62(3) of the Act, dealing with conversion of debenture or loans into equity, as an independent method of raising fund. Section 62 of the Act provides the avenue to companies to raise funds by the way of further issue of capital by way of rights issue, preferential allotment and employee stock option. Notwithstanding this, the SAT in addition to the aforementioned modes of raising capital according to the provisions of section 62(1)(a), (b) and (c), has introduced a baffling conundrum in the field of securities law by recognizing section 62(3) of the Act as an independent method of raising funds at the first instance. However, its pertinent to note that 62(3) merely envisages a method to the exclude companies from the requirements prescribed under section 62(1) at the stage of conversion, and does not extend autonomy to the companies from the regulatory compliances at the time of original issuance of securities.


It is clear that the view held by the SAT is completely contrary to the basic understanding of issuance of capital under the provisions of sections 42 and 62 of the Act. Thus, the problematic interpretation of various settled points of securities law in this ruling will surely make the stakeholders and investors perplexed. By enabling section 62(3) to act as an independent provision, it appears that the SAT has ignored the deeming provision under section 42, which cogently triggers in the instant case. Hence, in my opinion, there is an urgent need to rectify the erroneous opinion propounded by SAT.  

Aastha Agarwalla

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