Concept of Private Placement under Companies Act, 2013

by Ms. Shreya Gupta, 5th Year B.A., LL.B (Hons.), JGLS

A popular mode of raising funds for unlisted companies is through private placement. A private placement is where the offer of share subscription is made to a limited group of persons who comprise a number less than 50 according to Proviso to Section 67(3) of the erstwhile Companies Act, 1956 (“1956 Act”) as opposed to a public offer where the shares are offered to the public at large. Since private placement involves raising capital from a small group investors, companies raising money through this mode are exempt from the jurisdiction of Securities Exchange Board of India (“SEBI”) and its disclosure requirements.

However, the Sahara case has demonstrated how unlisted companies can circumvent the provisions of private placement to escape SEBI disclosure requirements and investor protection norms to raise money from a large number of people.

Two unlisted companies of the Sahara group - Sahara Real Estate Corporation Ltd. (“SIRECL”) and Sahara Housing Investment Corporation Limited (“SHICL”)- under the garb of raising money through private placement, raised INR 20,000 crores from almost 22 million investors between 2008 and 2011. Their defense was that the offer of subscription was addressed to only close friends and relatives of the promoters and directors of the Sahara group and only they could accept or reject the offer. It was argued that it was not a public offer and hence was exempted from the jurisdiction of SEBI under Section 55-A of the erstwhile Companies Act, 1956 and compliance with its disclosure-related and investor protection norms.

The Supreme Court did not accept Sahara’s arguments. It noted that, by virtue of the Proviso to Section 67(3) of the 1956 Act, any offer made to more than 49 persons is deemed to be a public offer irrespective of the fact that it may be addressed to specific people. The Court held that Sahara had made a public offer under Section 67(3) and therefore the company’s shares were mandatorily required to be listed on any of the stock exchanges The Court was of the view that the offer made by Sahara fell within the purview of SEBI jurisdiction by virtue of Section 55A of 1956 Act.

In the guise of private placement, a large number of people were offered Optionally Fully Convertible Debentures (“OFCDs”) while bypassing all disclosure and investor protection norms. While the Supreme Court has recently passed directions against Sahara to pay back all the investors with an interest of 15%, the 2013 Companies Act has introduced and specifically incorporated provisions relating to private placement in order to prevent another Sahara debacle.

Section 42 of the Companies Act, 2013 allows for private placement of shares and has to be read together with Rule 14 of the Companies Prospectus and Allotment of Security Rules, 2014.

A conjoint reading of the provision and the rule suggests that the new rules allow for private placement of shares to up to 200 people in an aggregate financial year.  This number excludes the qualified institutional buyers such as banks, financial institutions etc. and employees of the company given shares under Employee Stock Option Plans (“ESOPs”).

However, according to Section 42 of the Act, an offer to invitation to subscribe through private placement mode cannot be made to more than 50 persons in one go. If at a single instance it is made to more than 50 people, then irrespective of the fact that payment for securities has been received or not or the company is willing to list its securities on a stock exchange, it will be deemed to be a public offer. This number excludes the securities offered to qualified institutional buyers and employees.

If a company intends to raise capital through a further issue of securities within the limit of 200 persons, Section 62(1)(c) of Act, 2013 will applicable. According to this section, if authorized by a special resolution existing shareholders have a pre-emptive right to purchase the new shares offered which includes the right to renounce the shares in favor of someone else.

According to Rule 14 of the Companies Prospectus and Allotment of Securities Rules, 2014, the value of such offer per person should be a minimum investment size of INR 20,000 of face value of securities.

The procedure set out within the relevant rule and provision is as follows-

• A private placement letter of offer is addressed to specific persons.
• This letter is required to be filed with the Registrar within 30 days
• All money payable is required to be paid through a banking channel and not by way of cash.
• Within 60 days of invitation of offer of shares such shares must be allotted; if unable to so after the expiry of 60 days, the money should be returned within a period of 15 days.
• Within 30 days the letter of allotment of shares should be filed with the Registrar.
• If the money is not repaid within 15 days then interest payable at 12% is imposed.
• Non-compliance with the above provisions will make the company liable to pay a penalty that may extend to the amount of offer or invitation or INR 2 crore, whichever is higher. This amount is payable within 30 days.
• According to the Rule 14 of the Companies Prospectus & Allotment of Security Rules, 2014, minimum investment by each purchaser should be to the tune of INR 20,000.
• Shares must be valued by an independent expert to determine their price.

Although both 1956 Companies Act and 2013 Act allow for private placement, the 2013 Act when supplemented with the Companies Prospectus and Allotment of Securities Rules, 2014 has brought clarity in the provision of private placement in the Act and is a welcome change that is likely to result in transparency and accountability in the system.