2.1 Memorandum of Association

Memorandum of association

Memorandum of Association is the most important document of a company. It states the objects for which the companyis formed. It contains the rights, privileges and powers of the company. Hence it is calleda charter of the company. It is treated as the constitution of the company. It determines the relationship between the company and the outsiders.

The whole business of the company is builtup according to Memorandum of Association. A company cannot undertake any business or activity not stated in the Memorandum. It can exercise only those powers which are clearly stated in the Memorandum.

Definition of Memorandum of Association

Lord Cairns:

“The memorandum of association of a company is the charterand defines the limitation of the power of the company established under the Act”.

Thus, a Memorandum of Association is a document which sets out the constitutionof the company. It clearly displays the company’s relationship with outside world. It also defines the scope of its activities. MoA enables the shareholders, creditors and people who has dealing with the company in oneform or another to know the range of activities.

Contents of Memorandum of Association

According to the Companies Act, the Memorandum of Association of a company must contain the following clauses:

1. Name Clause of Memorandum of Association

The name of the company should be stated in this clause. A company is free to select any name it likes. But the name should not be identical or similar to that of a company already registered. It should not also use words like King, Queen, Emperor, Government Bodies and names of World Bodies like U.N.O., W.H.O., World Bank etc. If it is a Public Limited Company, the name of the company should end with the word ‘Limited’ and if it is a Private Limited Company, the name should end with the words ‘Private Limited’.       

2. Situation Clause of Memorandum of Association  

In this clause, the name of the State where the Company’s registered office is located should be mentioned. Registered office means a place where the common  seal, statutory books etc., of the company are kept.The company should intimate the location of registered office to the registrar within thirty days from the date of incorporation or commencement of business.

The registered office of a company can be shifted from one place to another within the town with a simple intimation to the Registrar. But in some situation, the company may want to shift its registered office to another town within the state. Under such circumstance, a special resolution should be passed. Whereas, to shift the registered office to other state, Memorandum should be altered accordingly.

3.Object clause of memorandum of association                                                       

This clause specifies the objects for which the company is formed. It is difficult to alter the objects clause later on. Hence, it is necessary that the promoters should draft this clause carefully. This clause mentions all possible types of business in which a company may engage in future.

The objectsclause must contain the important objectives of the company and the other objectives not included above.

4. Liability Clause ofMemorandum of Association

This clause states the liability of the members of the company. The liability may be limited by shares or by guarantee. This clause may be omitted in case of unlimited liability.

5. Capital Clause of Memorandum of Association

This clause mentions the maximum amount of capital that can be raised by the company. The division of capital into shares is also mentioned in this clause. The company cannot secure more capital than mentioned in this clause. If some special rights and privileges are conferred on any type of shareholders mention may also be made in this clause.

6. Subscription Clause of Memorandum of Association

It contains the names and addresses of the first subscribers. The subscribers to the Memorandum must take at least one share. The minimum number of members is two in case of a private company and seven in case of a public company.

Thus, the Memorandum of Association of the company is the most important document. It is the foundation of the company.

Key Takeaways:

1. Memorandum of Association is the most important document of a company.

2. The whole business of the company is built up according to Memorandum of Association.

2.2 Articles of Association

Articles of Association

Articles of Association is an important document of a Joint Stock Company. It contains the rules and regulations or bye-laws of the company. They are related to the internal working or management of the company. It plays a very important role in the affairs of a company. It deals with the rights of the members of the company between themselves.

The contents of articles of association should not contradict with the Companies Act and the MOA. If the document contains anything contrary to the Companies Act or the Memorandum of Association, it will be inoperative. The private concerns that are limited by shares and those limited by guarantee and unlimited companies must have their articles of association. Public companies may not have their articles but may adopt Model articles given in Table A of Schedule I of Companies Act, 1956. If a public company has only some articles of its own for the rest, articles of Table A will be applicable.

Articles that are profound to be registered should be printed, segmented well and sequenced consecutively.  Each subscriber to Memorandum of Association must sign the articles in the presence of at least one witness.

 The articles generally deal with the following

1. Classes of shares, their values and the rights attached to each of them.

2. Calls on shares, transfer of shares, forfeiture, conversion of shares and alteration of capital.

3. Directors, their appointment, powers, duties etc.

4. Meetings and minutes, notices etc.

5. Accounts and Audit

6. Appointment of and remuneration to Auditors.

7. Voting, poll, proxy etc.

8. Dividends and Reserves

9. Procedure for winding up.

10. Borrowing powers of Board of Directors and managers etc.

11. Minimum subscription.

12. Rules regarding use and custody of common seal.

13. Rules and regulations regarding conversion of fully paid shares into stock.

14. Lien on shares.

Alteration of Articles of Association The alteration of the Articles should not sanction anything illegal. They should be for the benefit of the company. They should not lead to breach of contract with the third parties. The following are the regulations regarding alteration of articles:      

A company may alter its Articles with a special resolution. Due importance and care should be given to ensure that the alteration of AOA does not conflict with the provisions of the Memorandum of Association or the Companies Act. A copy of every special resolution altering the Articles must be filed with the Registrar within 30 days of its passing.

1. The proposed alteration should not contravene the provisions of the Companies Act.

2. The proposed alteration should not contravene the provisions of the Memorandum of Association.

3. The alteration should not propose anything that is illegal.                                                             

4. The alteration should be bonafide for the benefit of the company.

5. The proposed alteration should in no way increase the liability of existing members.

6. Alteration can be made only by a special resolution.

7. Alteration can be done with retrospective effect.

8. The Court does not have any power to order alteration of the Articles of Association.

Key Takeaways:

1. Articles of Association is an important document of a Joint Stock Company.

2. The contents of articles of association should not contradict with the Companies Act and the MoA.  

2.3 Global Depository Receipts

Global Depository Receipts                                                                                                                       

A global depository receipt  is a general name for a depository receipt where a certificate issued by a depository bank, which purchases shares of foreign companies, creates a security on a local exchange backed by those shares. They are the global equivalent of the original American depository receipts (ADR) on which they are based. GDRs represent ownership of an underlying number of shares of a foreign company and are commonly used to invest in companies from developing or emerging markets by investors in developed markets. Prices of global depositary receipt are based on the values of related shares, but they are traded and settled independently of the underlying share. Typically, 1 GDR is equal to 10 underlying shares, but any ratio can be used. It is a negotiable instrument which is denominated in some freely convertible currency. GDRs enable a company, the issuer, to access investors in capital markets outside of its home country.

Several international banks issue GDRs, such as JPMorgan Chase, Citigroup, Deutsche Bank, The Bank of New York Mellon. GDRs are often often listed in the Frankfurt Stock Exchange, Luxembourg Stock Exchange, and the London Stock Exchange, where they are traded on the International Order Book (IOB).

Characteristics of Global Depository Receipts

1. It is an unsecured security.

2. It may be converted into number of shares.

3. Interest and redemption price is public in foreign agency.

4. It is listed and traded in the stock exchange.

5. Holders of GDR do not carry any voting rights.

If for example an Indian company which has issued ADRs in the American market wishes to further extend it to other developed and advanced countries such as in Europe, then they can sell these ADRs to the public of Europe and the same would be named as GDR. GDR can be issued in more than one country and can be denominated in any freely convertible currency.

Advantages of Global Depository Receipts

The following are the advantages of global depository receipts(GDR)

1. Liquidity – Global Depository Receipts are liquid instruments that are traded on stock exchanges. The liquidity can be managed by managing the supply-demand of the instruments.

2. Access to Foreign Capital – GDRs have emerged as one of the essential mechanisms to raise capital from foreign markets in today’s world. The securitization process is being carried out by big names such as JP Morgan, Deutsche, Citibank, etc. It is giving companies all over the world access to foreign capital through a relatively simpler mechanism. It is also helping companies increase their worldwide visibility by issuing GDRs in multiple countries.

3. Easily Transferrable – Global Depository Receipts can be easily transferred from one person to another. It makes trading them easy, even for non-resident investors. The transfer of GDR does not involve extensive documentation like some other securities.

4. Potential Foreign Exchange Gains – Since GDRs are international capital market instruments, they are exposed to foreign exchange rate volatility. The dividends paid for every share in a GDR is denominated in the domestic currency of the company whose shares are being held in the GDR. A favorable exchange rate movement can potentially provide gain beyond just the capital gains and the dividends received for the shares in a GDR.

Disadvantages of Global Depository Receipts

The following are the disadvantages of global depository receipts(GDR)

1. High Regulation – Since Global Depository receipts are issued in multiple countries, they become subject to regulation from various financial regulators. It is crucial to adhere to all the regulations, and even a small mistake can lead to a company being heavily reprimanded. Companies might have to bear huge consequences for even a tiny mistake.

2. Foreign Exchange Risk – As we stated earlier, Global Depository Receipts are exposed to the foreign exchange rate volatility. Since the dividends received and the original price of the shares are denominated in the foreign currency, an appreciation of foreign currency can reduce the return generated and even cause losses to the investors.

3. Suitable for High Net worth Individuals – Global Depository Receipts are usually issued with the multiple numbers of shares in each certificate to lower the transaction costs. Small investors might not be able to shell out that kind of money and might be unable to take advantage of the GDR. In this case, it becomes a more suitable product for HNIs.

4. No Voting Rights – Under the mechanism of the Global Depositary Receipts, the shares of a company are sold in bulk to an intermediary in another country who further securitizes them into GDRs. Therefore, the voting rights in the company are retained by the intermediary who has directly bought the shares, and not by investors who buy the GDR.

2.4 Book building

Book Building

Every business organisation needs funds for its business activities. It can raise funds either externally or through internal sources. When the companies want to go for the external sources, they use various means for the same. Two of the most popular means to raise money are Initial Public Offer (IPO) and Follow on Public Offer (FPO).

During the IPO or FPO, the company offers its shares to the public either at fixed price or offers a price range, so that the investors can decide on the right price. The method of offering shares by providing a price range is called book building method. This method provides an opportunity to the market to discover price for the securities which are on offer.

Book Building may be defined as a process used by companies raising capital through Public Offerings-both Initial Public Offers (IPOs) and Follow-on Public Offers (FPOs) to aid price and demand discovery. It is a mechanism where, during the period for which the bookfor the offer is open, the bids are collected from investors at various prices, which are within the price band specified by the issuer. The process is directed towards both the institutional investors as well as the retail investors. The issue price is determined after the bid closure based on the demand generated in the process.

Book Building vs. Fixed Price Method:

The main difference between the book building method and the fixed price method is that in the former, the issue price to not decided initially. The investors have to bid for the shares within the price range given. The issue priceis fixed on the basis of demand and supply of the sharesOn the other hand, in the fixed price method, the price is decided right at the start. Investors cannot choose the price. They have to buy the shares at the price decided by the company. In the book building method, the demand is known every day during the offer period, but in fixed price method, the demand is known only after the issue closes.

Book Building in India:

The introduction of book-building in India was done in 1995 following the recommendations of an expert committee appointed by SEBI under Y.H. Malegam. The committee recommended and SEBI accepted in November 1995 that the book-building route should be open to issuer companies, subject to certain terms and conditions. In January 2000, SEBI came out with a compendium of guidelines, circulars and instructions to merchant bankers relating to issue of capital, including those on the book-building mechanism.

Book Building Process:

The principal intermediaries involved in a book building process are the companies, Book Running Lead Manager (BRLM) and syndicate members are the intermediaries registered with SEBI and eligible to act as underwriters. Syndicate members are appointed by the BRLM. The book building process is undertaken basically to determine investor appetite for a share at a particular price. It is undertaken before making a public offer and it helps determine the issue price and the number of shares to be issued.

The following are the important points in book building process:

1. The Issuer who is planning an offer nominates lead merchant banker(s) as ‘book runners’.

2. The Issuer specifies the number of securities to be issued and the price band for the bids.

3. The Issuer also appoints syndicate members with whom orders are to be placed by the investors.

4. The syndicate members put the orders into an ‘electronic book’. This process is called ‘bidding’ and is similar to open auction.

5. The book normally remains open for a period of 5 days.

6. Bids have to be entered within the specified price band.

7. Bids can be revised by the bidders before the book closes.

8. On the close of the book building period, the book runners evaluate the bids on the basis of the demand at various price levels.

9. The book runners and the Issuer decide the final price at which the securities shall be issued.

10. Generally, the number of shares is fixed; the issue size gets frozen based on the final price per share11. Allocation of securities is made to the successful bidders. The rest bidders get refund orders.

Key Takeaways:

1. Two of the most popular means to raise money are Initial Public Offer (IPO) and Follow on Public Offer (FPO).

2. Book Building may be defined as a process used by companies raising capital through Public Offerings-both Initial Public

Offers (IPOs) and Follow-on Public Offers (FPOs) to aid price and demand discovery.

2.5 Issue, Allotment, Forfeiture and Transmission of Shares

Issue Of Shares

The issue of shares is the procedure in which enterprises allocate new shares to the shareholders. Shareholders can be either corporates or individuals. The enterprise follows the rules stipulated by Companies Act 2013 while circulating the shares. The Issue of Prospectus, Receiving Applications, Allocation of Shares are 3 key fundamental steps of the process of issuing the shares.

A noticeable feature of the company’s capital is that the amount on its shares can be progressively collected in simple installments that are spread over a time frame relying upon its enhancing financial obligation. The 1st installment is collected with the application and is hence, called as application money, the 2nd is on allocation (termed as allocation or allotment of money), and the 3rd installment is known as a 1st call, 2nd call and so on. The word-final is suffixed to the final installment. This procedure, in no way, prevents an enterprise from calling the entire amount on shares during the period of application.

The  significant steps in the process of issue of shares are given below : 

3. Allocation of shares: Once the minimum subscription has been done, the shares can be allocated. Normally, , there is always oversubscription of shares, so the allocation is done on pro-rata ground. Letters of Allotment are sent out to those people who have been allocated their part of shares. This results in an authentic contract between the enterprise and the claimant, who will now be a part owner of the enterprise.

Allotment Of Shares

Allotment of shares is an appropriation of a certain number of shares to an applicant and distribution of shares among those who have submitted written application. It is governed by companies act, 2013 and rules & regulations incorporated therein and for Listed Companies) whose shares are listed on the NSE and BSE or any other applicable Stock exchanges in India and whose shares are freely tradable without any restrictions) and Subsidiary of Listed Companies the provisions of SEBI act, 1992 and the securities contracts (regulation) act, 1956, are also applicable

Mode of allotment of shares:

A public company may allot shares in the following ways:

A private company may allot shares in the following ways:

An application is made to stock exchange(s) for the shares to be dealt through it/ them, before any offer of allotment to public. Allotment of shares is always in e-materialized form and the offer for the allotment of shares is made through red herring/ shelf prospectus, as the case may be. In public offer, no allotment is made unless minimum amount stated in the prospectus has been subscribed and consequently return of allotment is to be filed with the registrar.

A private placement offer letter is issued to such number of persons not exceeding 50 but limited to 200 in a financial year and the allotment of shares through private placement is to be approved by the shareholders through a special resolution only. A complete record of private placement offers is to be kept by the company and is to be filed with the registrar and to SEBI (for listed company).    

RIGHTS ISSUE:

A letter of offer in the form of notice is issued to the existing equity shareholders for the purpose of rights issue which provides with the right of renunciation to the existing equity shareholders with respect to the offer for the allotment of shares.

Accordingly, subscribed capital of the company is increased in rights issue.

BONUS ISSUE:

Only fully paid-up bonus shares are issued to the members, out of:

Bonus issue is to be authorized by the AOA of the company making the allotment of bonus shares and it is recommended by the board and then approved by the shareholders in the general meeting of the company.

Forfeiture Of Shares

In business, there are situations where stakeholder loses its share because of non-payment of his share of installment or dues. However, a company can only forfeit a share if they allow forfeiture under the Article of Association of the company.

Forfeiture of Shares Meaning

Forfeiture of shares is referred to as the situation when the allotted shares are cancelled by the issuing company due to non-payment of the subscription amount as requested by the issuing company from the shareholder.

In the event of forfeiture of shares, the shareholders loses the rights and interests of being a shareholder and ceases to be a member of the organisation.

Some shareholders might fail to pay installments, viz., allocation of money or call money. In such a scenario :

The share capital account is debited with the amount called-up.

Transmission Of Shares

Transmission of shares is a process by operation of law where under the Shares are registered in a Company in the name of deceased person or an insolvent person are registered in the name of his legal heirs by the Company on proof of death or insolvency as the case may be.

Transmission of shares takes place when registered member dies or is adjudicated insolvent or lunatic by competent court.

Article of the Company Company usually provide the provisions of Transmission of shares. In absence of such provisions, Company will follow Regulations 23 to 27 of Table F to govern the provision of Transmission of shares.

As per the above regulations, legal representatives are entitled to the shares held by the deceased person and company must accept the evidence of Succession.            What is Evidence of Succession?  

Succession certificate letters of Administration.        

Probate.

Evidence acquired by Board of Directors.

Modes of Transmission of Shares

If Member of the Company dies without leaving a

Will, then succession certificate issued by the Court shall be issued to the Company.

2.6 Buyback  And Provisions Of Buy Back Of Shares

Buyback Of Shares                                                                                                                                                           

A buyback, also known as a share repurchase, is when a company buys its own outstanding shares to reduce the number of shares available on the open market. Companies buy back shares for a number of reasons, such as to increase the value of remaining shares available by reducing the supply or to prevent other shareholders from taking a controlling stake.

KEY TAKEAWAYS-

Salient provisions regarding the buyback of shares are as follows:

(1) Buy back in a financial year shall not exceed 25 percent of the free reserves and equity of a company.

(2) Buy back would be used only for restructuring of capital and not for treasury operations.

(3) Buy back of shares can be done out of the company’s free-reserves, share premium account or proceeds of any earlier issue specially made for buy back purpose.

(4) The post-buy debt-equity ratio will be at 2: 1.

(5) There will be a 24-month gap between two buy backs of the same type of security. However, there would be no bar on the issuance of other types of securities including debt, debentures and preference equity.

(6) Companies desiring to buy-back shares will have to seek following approval from the Board of directors.

(7)The buyback process will have to be completed within 12 months from the date of passing the special resolution, authorized by the Article of Association of company.                                                                                                                                                    (8) Companies, which have defaulted in repayment of deposits, redemption of debentures/preference shares and repayment to Financial Institutions will not be allowed the buyback option.

(9) A company seeking buyback will be permitted to do so after making full disclosure, of all facts, the need for the buyback, the class of shares to be bought back, the person from whom the buyback is to be effected, etc.

(10) ESOPs cannot be issued to promoters or directors holding 10 percent or more shares.                   

2.7 Issue Of Bonus Shares(As Per Companies Act 2013)

Issue Of Bonus Shares

Sometimes, Companies are not able to pay dividend in cash, due to shortage of funds, despite profit in the Companies. In such a situation, the Companies Issue Bonus Share to existing shareholders instead of paying the Dividend in cash to the shareholders. Bonus Shares are issued without paying any cost in the proportion of the shares. Only fully paid-up bonus shares are issued to the members, out of:

Bonus issue is to be authorized by the AOA of the company making the allotment of bonus shares and it is recommended by the board and then approved by the shareholders in the general meeting of the company.

References:

• ‘Company Law’ by Brenda Hannigan
• ‘Elements of Company’ Law by N. D. Kapoor