The Companies Act, 1956 is perhaps the bulkiest enactment we have in this country and inspite of exercises from time to time to simplify the law, the fact is that every attempt at simplification has invariably resulted in more complication. Hence, it comes as no surprise that the recent guidelines (also termed as "check list") issued by the DCA, Ministry of Law, Justice and Company Affairs, relating to making of loans, etc, to directors (section 295 of the Companies Act), have created avoidable confusion.
As it is, the professionals were still recovering from the after effects of poor drafting of the postal ballot rules, then the department came out with changes in schedule XIII, ostensibly liberalising the provisions relating to managerial remuneration. While the professionals are still trying to figure out its exact implications, they are now faced with one more set of guidelines to add to their woes.
Section 295 of the Companies Act regulates grant of loans by a public company (and its subsidiaries), barring exempted categories, to its directors, their relatives and the firms and companies in which they are interested, as mentioned in the said section. Therefore, the section provides that a company cannot make a loan, give guarantee or provide security in connection with such a loan without obtaining the previous approval of the central government.
There is no doubt that to protect the interests of all the shareholders of a public company, it is necessary that there are effective controls so as to ensure that the company’s funds are not misused by the directors. Accordingly, the government has been issuing guidelines from time to time stipulating the procedural and other requirements to be fulfilled by such a company intending to make loans, etc, to directors and other specified persons.
In that context, the government has once again, through the DCA, come out with a set of guidelines called "check list". The very purpose of any such guidelines is to simplify the task of those persons who intend to approach the government for seeking its approval. The new check list comprising of 21 points, though a welcome step, has unwittingly generated some confusion where none existed. Confusion has basically arisen due to the reference to section 372A, in the checklist, in a manner not envisaged by the section itself.
It needs to be noted that section 372A has replaced the earlier sections 370 and 372 with effect from October 31, 1998. Under the said two old sections there was a provision that for giving any loan or making any investment beyond the prescribed limits, the concerned company was required to obtain prior approval of the central government.
However, the Companies (Amendment) Act, 1999, liberalised this provision by giving the shareholders the ultimate power. In other words, according to the provisions of section 372A, when the loans, investments and guarantees exceed the prescribed limits then the company is required to obtain the consent of its shareholders by a special resolution. As a result, the earlier stipulation of obtaining approval of the central government in such cases is no more applicable.
However, so far as section 295 is concerned, the provision relating to approval of the government continues to be on the statute. The confusion arises due to the fact that it seems that the draftsman has presumed that government approval is necessary under section 372A.
The heading of the check list itself refers to submission of application under section 372A. Similarly, point no 10 of the check list requires the applicant company to give shareholding details of the applicant and the borrower companies and specifically refers to applications under section 372A. Although even point 15 of the check list refers to section 372A, but there is no confusion in that regard as in some cases both sections ie 295 and 372A may be attracted and so compliance therein has to be made.
There is no form of application specified by the check list, but it has stipulated the information that the concerned company is required to submit. An application fees, ranging from Rs 500 to Rs 2000, depending upon the authorised capital of the company, is payable to the government. Any such loan has to carry a minimum interest of four percent above the prevailing bank rate.
The company will have to submit a declaration to the effect that the company has not defaulted in making repayments to the investors of the amounts that have fallen due. Similarly, the company also has to submit a certificate from a practising company secretary or the statutory auditors of the company, wherein it has to be mentioned that the proposal is in conformity with the provisions of section 372A.
Interestingly, not every application under section 295 would attract the provisions of section 372A, in that case what should the practicing company secretary or the auditor mention in the certificate? Perhaps, the answer would be that the said section is not applicable to the concerned case. The other issues to be covered by the said certificate are, that the company has not defaulted in repayment deposits and interest thereon, dividend, redemption of debenture and interest thereon, redemption of preference shares. Lastly, it has also to be certified that the company is regular in filing all forms and returns as required to be filed under the Companies Act.
Another requirement is that a NOC/ prior approval of public financial institutions/ banks has to be obtained in cases where any term loan is subsisting. It should be noted that such a clearance is required even when there is neither default nor any overdue term loan amount. Perhaps the intention of this stipulation is to ensure that the term loan amount is not misused by such a company by giving loans to its directors and so it requires clearance from the concerned financial institution/ bank.
Conclusion
It is a fact that several companies after raising funds from the market, obtaining deposits from small investors and after taking term loans have grossly misused the same. Hence the government has now prescribed several conditions with a view to better regulate the granting of loans, providing of guarantee or security in connection with such loans to directors of a public company and its subsidiaries. At the same time, it is advisable that the glitches that have crept into the guidelines/ check list are removed so as to avoid needless confusion.
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