Loan and investment by company-186

Loan and investment by company-Section 186

Indian promoters can no more spin a complex web of subsidiary firms to channel intra-group company investments as the Companies Bill, recently passed by Parliament, explicitly says there cannot be any investment through more than two layers of investment firms. This means Company A can invest only in Company B and C through the subsidiary routes and cannot go beyond this. Company law experts said the aim of Clause 186 (1), which defines this under “Loan and investment by Company”, is to prevent companies from creating a maze of subsidiaries and route funds that makes it difficult for government agencies to track them if required. The good news is that the provision would be prospective in nature and therefore not require existing companies to restructure their subsidiaries. Another notable exemption provided is that such a restriction would not apply to any merger and acquisitions by Indian firms abroad. This means that if any Indian company were to buy a company overseas in the next few months, the target company would not be governed by the provision of two layers of investment but by the law of the respective country. Such a cap on investments by companies is significant since in recent times irregularities surrounding the chit fund firm in West Bengal, Saradha Group and some firms involved in the 2G scam involved routing of funds through a complex web of subsidiary firms, which made the task of identifying the beneficiaries difficult for law enforcement agencies. "Though the final rules governing this clause would determine its scope but since there's no mention of applying this retrospectively by providing a transition timeline means that it would not apply on existing companies and their subsidiaries,” said Harinderjit Singh, partner, Price Waterhouse. “A retrospective application of this law may have attracted several litigation,” he added. Some experts view this clause as restrictive with the potential to affect the operations of companies operating in the real estate or infrastructure space where fund requirements are huge. It may also place domestic firms at a disadvantage vis-a-vis their foreign competitors. 

“This restriction could undesirably place domestic companies at a disadvantage vis-à-vis international competitors, by restricting corporate structuring and impeding mergers and acquisitions, formation of joint ventures, special purpose vehicles and other corporate restructuring routes in India,” Inder Mohan Singh, partner in Amarchand Mangaldas said.

However, Singh said each sector has its own nuances and it is essential that separate entities be formed in

order to manage complex businesses and protect shareholder interests.

According to Narendra Rohira, tax partner, EY: “This particular clause will impact certain sector specific companies such as infrastructure firms that operate across multiple sectors and usually have an investment company at the top. This may undermine their ability to raise funds.”

Agrees Lalit Kumar, partner in law firm J Sagar Associates. "This will affect the way companies structure their investments. A better way out could have been to enhance disclosure standards which would have taken care of the concern of diversion of funds rather than imposing a restrictive regime,” he said.

N Venkatram, managing partner, audit, Deloitte Haskins & Sells said in order to comply with the new norms, companies will have to demonstrate operations in the subsidiaries, which will come with associated costs, including operation and compliance costs.

Agrees Rohira of EY said: “Prohibition on having more than two layers of investment companies mayrequire groups to reconsider their investment structures.”

However, it seems that the said restriction should not apply on making investment through other than investment companies. To that extent some flexibility may still be available, Rohira said.

                                                                                                                                                     by Financial Express