Prospectus and Alteration of Share Capital – Company Law Important Questions

Question 1.
Write a short note on the golden rule or golden legacy. (December 2008) (4 marks)
Answer:

1. It is the duty of those who issue the prospectus to be truthful in all respects.
2. The one who issue a prospectus must state all the facts and information with strict and scrupulous accuracy.
3. In short, the true nature of the Company’s venture should be disclosed and there should not be concealment of any material fact.
4. Even if every specific statement is true , the prospectus said to be false by reason of the suppression of other material facts, it conveys a false impression.
5. This golden rule was pronounced in New Brunswick and Canada Railway & Land Co. v. Muggeridge (1860).

Question 2.
A company has issued a prospectus to the public stating that the company has paid dividend regularly and the prospectus is silent relating to the sources of profit that is whether trading profit or capital profits. The fact is that the company has incurred losses for all the last past 5 years, but the dividend is paid out of reliance capital profit (that is secret reserves). Y a shareholder, claim that the prospectus is false. Whether Y’s contention is correct? Discuss (June 2014) (4 marks)
Answer:

1. It is the duty of those who issue the prospectus to be truthful in all respects.
2. The one who issues a prospectus must state all the facts and information with strict and scrupulous accuracy.
3. In short, the true nature of the Company’s venture should be disclosed and there should not be concealment of any material fact.
4. Even if every specific statement is true, the prospectus said to be false by reason of the suppression of other material facts, it conveys a false impression.
5. The facts of the given case are similar to R.V. Kylsant (1932) K.B. 442, wherein it was held that if prospectus states that the company is paying a dividend for the last five years but fails to disclose the source of profit for paying such dividend, such prospectus is false and misleading and the managing director and chairman, who knew that it was false, were held guilty of fraud.

Question 3.
Write a short note on cases in which a prospectus is not required to be issued. (December 2010) (4 marks)
Answer:
In the following cases a prospectus is not required to give the all necessary details:

1. Where the securities are not offered to the public. [Section 33(1)]
2. Where a person is a bona fide invitee to enter into an underwriting agreement with regard to shares or debentures. [Section 33(1)]
3. Where the issues relate to shares or debentures uniform in all respects, with the shares or debentures already issued and dealt in or quoted at a recognized stock exchange. [Section 26(2)]
4. Advertisement of Prospectus [Section 30]: Where an advertisement of any prospectus of a company is published in any manner, the entire prospectus is not required to be issued. However, it shall be necessary to specify therein the contents of its memorandum as regards the objects, the liability of members and the amount of share capital of the company, and the names of the signatories to the memorandum and the number of shares subscribed for by them, and its capital structure.

Question 4.
Write a short note on the red-herring prospectus. (June 2009) (4 marks)
Or
Write a short note on the red-herring prospectus. (December 2014) (4 marks)
Answer:

1. A red-herring prospectus means a prospectus that does not include complete particulars of the quantum or price of the securities included therein.
2. In simple terms, a red-herring prospectus contains most of the information pertaining to the company’s operations and prospects but does not include key details of the issue such as its price and the number of shares offered.
3. According to section 32, a company proposing to make an offer of securities may issue a red herring prospectus prior to the issue of a prospectus. Such a company proposing to issue a red herring prospectus shall file it with the Registrar at least three days prior to the opening of the subscription list and the offer.
4. A red herring prospectus shall carry the same obligations as are applica¬ble to the prospectus and any variation between the red herring prospectus and a prospectus shall be highlighted as variations in the prospectus.
5. Upon the closing of the offer of securities under this section, the pro¬spectus stating therein the total capital raised, whether by way of debt or share capital, and the closing price of the securities and any other details as are not included in the red herring prospectus shall be hied with the Registrar and the Securities and Exchange Board.

Question 5.
Red herring prospectus means a prospectus that has complete particulars on the price of the securities offered and the quantum of securities offered. Comment (June 2010) (5 marks)
Answer:

1. Red-herring Prospectus means a prospectus that does not include complete particulars of the quantum or price of the securities included therein. In simple terms, a red herring prospectus contains most of the information pertaining to the company’s operations and prospects but does not include key details of the issue such as its price and the number of shares offered.
2. According to Section 32:
3. A company proposing to make an offer of securities may issue a red herring prospectus prior to the issue of a prospectus
4. Such a company proposing to issue a red herring prospectus shall file it with the Registrar at least three days prior to the opening of the sub¬scription list and the offer.
5. A red herring prospectus shall carry the same obligations as are applicable to the prospectus and any variation between the red herring prospectus and a prospectus shall be highlighted as variations in the prospectus
6. Upon the closing of the offer of securities under this section, the prospectus stating therein the total capital raised, whether by way of debt or share capital, and the closing price of the securities and any other details as are not included in the red herring prospectus shall be filed with the Registrar and the Securities and Exchange Board.
7. The provisions of red herring prospectus are applicable to all companies except those are covered under the shelf prospectus.

Thus, the given statement is incorrect.

Question 6.
Public companies can issue shelf prospectus. (June 2014) (5 marks)
Answer:

1. As per Section 31, Shelf Prospectus means a prospectus in respect of which the securities or class of securities included therein are issued for subscription in one or more issues over a certain period without the issue of a further prospectus.
2. Any class or classes of companies, as the Securities and Exchange Board (SEBI) may provide by regulations on this behalf, may file a shelf prospectus with the Registrar. Such prospectus is to be submitted at the stage of the first offer of securities which shall indicate a period not exceeding one year as the period of validity of such prospectus.
3. The validity period shall commence from the date of opening of the first offer of securities under that prospectus, and in respect of a second or subsequent offer of such securities issued during the period of validity of that prospectus, no further prospectus is required.
4. An information memorandum is required to be filed by a company filing a shelf prospectus which shall contain all material facts relating to:
   1. new charges created,
   2. changes in the financial position of the company as having occurred between the first offer of securities or the previous offer of securities and the succeeding offer of securities, and
   3. such other changes as may be prescribed,
   with the Registrar within the prescribed time, prior to the issue of a second or subsequent offer of securities under the shelf prospectus.
5. According to the Rule 10 of the Companies (Prospectus & Allotment of Securities) Rules, 2014, the information memorandum shall be pre¬pared in Form PAS-2 and hied with the Registrar along with the fee as provided in the Companies (Registration Offices and Fees) Rules, 2014 within one month prior to the issue of a second or subsequent offer of securities under the shelf prospectus.

Question 7.
Distinguish between shelf prospectus and Red herring prospectus. (December 2009) (4 marks)
Answer:

Points	Shelf Prospectus	Red-herring Prospectus
Meaning	Under Section 31 of the Companies Act, 2013: Shelf Prospectus means a prospectus in respect of which the securities or class of securities included therein are issued for subscription in one or more issues over a certain period without the issue of a further prospectus.                Under Section 32 of the Companies Act, 2013:	Red herring Prospectus means a prospectus that does not include complete particulars of the quantum or price of the securities included therein.
Applicability	As per SEBI Guidelines, provisions of the self prospectus are applicable to the issue of securities in stages by public sector banks, scheduled commercial banks, and public financial institutions.	Provisions of the red-herring prospectus are applicable to all companies except those are covered under the shelf prospectus. The provision is mainly applicable for book building.
Prospectus	Where an information memorandum is filed, every time an offer of securities is made, such memorandum together with the shelf prospectus shall be deemed to be a prospectus.	A red-herring prospectus shall carry the same obligations as are applicable to a prospectus and any variation between the red herring prospectus and a prospectus shall be highlighted as variations in the prospectus.
The time limit for Filing	A company filing a shelf prospectus shall be required to file an information memorandum between the first offer of securities or the previous offer of securities and the succeeding offer of securities.	A company proposing to issue a red-herring prospectus shall file it with the ROC at least 3 days prior to the opening of the subscription list and the offer.

Question 8.
Distinguish between Red herring prospectus and abridged prospectus. (December 2015) (December 2017) (4 marks)
Answer:

Points	Red-herring Prospectus	Abridged Prospectus
Meaning	Under Section 32 of the Companies Act, 2013: Red herring Prospectus means a prospectus that does not include complete particulars of the quantum or price of the securities included therein.	According to Section 2(1) of the Companies Act, 2013: “abridged prospectus” means a memorandum containing such salient features of a prospectus as may be specified by the Securities and Exchange Board by making regulations on this behalf
Applicability	Provisions of the red-herring prospectus are applicable to all companies except those are covered under the shelf prospectus. The provision is mainly applicable for book building.	Provisions of the abridged prospectus are applicable to all companies
Scope	A red-herring prospectus shall carry the same obligations as are applicable to a prospectus and any variation between the red herring prospectus and a prospectus shall be highlighted as variations in the prospectus.	Under Section 33 of the Companies Act, 2013: No form of application for the purchase of any of the securities of the Company shall be issued unless such form is accompanied by an abridged prospectus. A copy of the prospectus shall, on a request being made by any person before the closing of the subscription list and the offer, be furnished to him.
Filing with ROC	A company proposing to issue a red-herring prospectus shall file it with the ROC at least 3 days prior to the opening of the subscription list and the offer.	The abridged prospectus is not required to be filed with ROC.

Question 9.
Shortcut Limited has allotted shares to investors of the company without filing a prospectus with the registrar of companies, Mumbai. Explain the remedies available to the investor in this regard. (December 2014) (4 marks)
Answer:

1. As per Section 26 of the Companies Act, 2013:
   If the allotment has been made without delivering to the Registrar of Companies, a copy of the prospectus along with other specified docu¬ments either before or on the date of its issue, the company and every person who is knowingly a party to the issue of the prospectus shall be punishable with fine which shall not be less than INR 50,000 but which may extend to INR 3,00,000.
2. However, such allotment shall remain valid.
3. If the allotment made in violation of the provisions of Section 39 of the Companies Act, 2013, is irregular allotment but not void allotment.
4. In the given case, Shortcut limited has allotted shares to investors of the company without filing a prospectus with the Registrar of Companies, Mumbai. Such allotment is improper but not ‘irregular’.

Question 10.
A deceitful prospectus was issued by the directors on behalf of the company pavan received a copy of it, but did not take any shares in the com¬pany. The allotment of shares to applicants was completed. Several months later, Pawan bought shares from the stock market. He proceeded with a suit against the directors of the issue of deceitful prospectus. Will he succeed? (December 2013) (4 marks)
Answer:

1. The word “subscribed” denotes that the shares were acquired directly from the company by allotment.
2. A subsequent purchaser of shares in the open market has no remedy against the company or the directors or promoters.
3. The right to claim compensation for any loss or damage sustained by reason of any untrue statement in a prospectus is available only to a person who has “subscribed” for shares or debentures on the faith of the prospectus containing an untrue statement.
4. In the given case, Mr. Pavan has purchased the shares from the stock exchange and he has not acquired shares directly from the Company;
5. hence he cannot claim damages from the company for the loss suffered on the ground the prospectus issued by the company contained a false statement.

Question 11.
Define prospectus what are the ingredients to constitute a prospectus:
(a) What are the documents required to be attached with the draft red-her¬ring prospectus to be filed with the Registrar of Companies.
(b) Registrar of the company can refuse registration of prospectus. Explain. (16 Marks) (December 2009)
Answer:
1. As per Section 2(70) of the Companies Act, 2013, Prospectus means any document described or issued as a prospectus and includes a red-herring prospectus or shelf prospectus or any notice, circular, advertisement, or other documents inviting offers from the public for the subscription or purchase of any securities of a body corporate.

2. On the basis of the aforesaid definition, it may be said that a document should have the following ingredients to constitute a prospectus:

• There must be an invitation to the public.
• The invitation must be made “by or on behalf of the company”.
• The invitation must be “to subscribe or purchase”.
• The invitation must relate to shares or debentures or other instruments.

3. Documents required to be attached with the draft red-herring prospectus to be filed with the Registrar of Companies:

• Copy of every contract relating to the appointment or remuner¬ation of a managing director or manager.
• Consent of the expert mentioned in the prospectus, if his report is included in the prospectus.
• A written statement relating to the adjustments, if any, in respect of figures of any profits or losses, and assets and liabilities.
• The consent of the director in respect of new directors, if any, named therein.
• A copy of the underwriting agreement, if any, should also be filed.
• A copy of every material contract not being a contract entered into in the ordinary course of business of the company entered into within two years of the issue of the prospectus.

Refusal of registration of prospectus [Section 26(7)]
Note: The provisions of section 26(7) are omitted now.

Question 12.
Distinguish between share and stock. (June 2010) (4 marks)
Answer:

Basis of Distinction	Shares	Stock
Nature	Shares in physical form bear distinct numbers.	Stocks are the consolidated value of share capital.
Paid-up Value	Shares may or may not be fully paid-up.	Stock is always fully paid- up.
Nominal Value	Shares have a nominal value.	Stock does not have any nominal value.
Denomination	All shares are of equal de-nomination	Denomination of stocks varies.
Existence	A share comes into existence before the stock and is issued initially.	Stock comes into existence after conversion of shares into stock and on conversion of shares into stock, the provisions of the Act governing the shares shall cease to apply to the share capital as it is converted into stock.

Question 13.
Distinguish between ‘Free reserves’ and ‘Net worth’ under the provision of Companies Act, 2013. (December 2017) (4 marks)
Answer:
“Net Worth” is a wider term and “Free Reserve” is part of “Net Worth”.
1. Net worth [Section 2(57)]: “Net Worth” means the aggregate value of the paid-up share capital and all reserves created out of the profits, se¬curities premium account and debit or credit balance of profit and loss account, after deducting the aggregate value of the accumulated losses, deferred expenditure and miscellaneous expenditure not written off, as per the audited balance sheet, but does not include reserves created out of revaluation of assets, write-back of depreciation and amalgamation.

2. Free Reserves [Section 2(43)7: “Free Reserves” means such reserves which, as per the latest audited balance sheet of a company, are available for distribution as dividend:

Provided that:

• Any amount representing unrealised gains, notional gains or revaluation of assets, whether shown as a reserve or otherwise, or
• Any change in carrying amount of an asset or of liability recognized in equity, including surplus in profit and loss account on measurement of . the asset or the liability at fair value, shall not be treated as free reserves.

In the following cases, the diminution of share capital is not to be treated as reduction of the capital:

1. Where the company cancels shares which have not been taken or agreed to be taken by any person [Section 61 (1)(e) of Companies Act, 2013];
2. Where redeemable preference shares are redeemed in accordance with the provisions of Section 55 [Explanation to section 55(3) of Companies Act, 2013];
3. Where any shares are forfeited for non-payment of calls and such for¬feiture amounts to reduction of capital;
4. Where the company buy-back its own shares under Section 68 of the Act [Section 66(6)];
5. Where the reduction of share capital is effected in pursuance of the or¬der of the Tribunal sanctioning any compromise or arrangement under section 230.

In all these cases, the procedure for reduction of capital as laid down in Section 66 is not attracted. Thus, it is incorrect to say that diminution of share capital is always regarded as reduction of share capital.

Question 15.
Explain the procedure of reduction of share capital. (June 2014) (4 Marks)
Answer:
♦ Reduction of Share Capital [Section 66(1)]:
A company limited by shares or limited by guarantee and having a share capital may, by a special resolution, reduce the share capital in any manner and in particular, may:
(a) Extinguish or reduce the liability on any of its shares in respect of the share capital not paid-up; or
(b) Either with or without extinguishing or reducing liability on any of its shares:

1. cancel any paid-up share capital which is lost or is unrepresented by available assets; or
2. pay off any paid-up share capital which is in excess of the wants of the company;
3. alter its memorandum by reducing the amount of its share capital and of its shares accordingly.

No Reduction of Capital would be allowed in case of Arrears in the Repayment of Deposits and Interest thereon [Proviso to Section 66(1)]

Notice of Tribunal [Section 66(2)]: The Tribunal shall give notice of every application made to it under sub-section (1) to:

• Central Government (Powers have been delegated to Regional Director),
• Registrar,
• The Securities and Exchange Board, in the case of listed compa¬nies, and
• The creditors of the company.

It shall take into consideration the representations, if any, made to it by that Central Government, Registrar, the Securities and Exchange Board and the creditors within a period of three months from the date of receipt of the notice.

If no representation has been received from the Central Government, Registrar, the SEBI or the creditors within the said period, it shall be presumed that they have no objection to the reduction. [Proviso to Section 66(2)].

1. Confirmation of Reduction of Capital [Section 66(3)]
   The Tribunal may, if it is satisfied that the debt or claim of every creditor of the company has been discharged or determined or has been secured or his consent is obtained, make an order confirming the reduction of share capital on such terms and conditions as it deems fit.
2. Publication of the order of the Tribunal [Section 66(4)]
   The order of confirmation of the reduction of share capital by the Tri¬bunal under Section 66(3) shall be published by the company in such manner as the Tribunal may direct.
3. Deliver a copy of order of Tribunal to Registrar [Section 66(5)]
   The company shall deliver a certified copy of the order of the Tribunal under sub-section (3) and of a minute (which means document submit¬ted to Tribunal detailing the reduction and approved by the Tribunal.

Question 16.
A Company incorporated under the Companies Act, 2013 does not have the right to reduce its share capital on selective basis. (December 2015) (5 marks)
Answer:

1. Reduction of the share capital of a company is a domestic concern of the company and the decision of the majority would prevail.
2. If the majority by special resolution decides to reduce the share capital of the company, it has the right to decide to reduce the share capital of the Company and it has the right to decide how this reduction should be effected.
3. While reducing the share capital, the company can decide to extinguish some of its shares without dealing in the same manner with all other shares of the same class.
4. A selective reduction is permissible within the framework of law for any company limited by shares. [SIEL Ltd., In re. [(2008) 144 Comp. Cas. 469 (Del)].

Question 17.
Piyush Limited decided to buy-back its shares with the approval of Board of directors. As the company secretary of the company, advise the board about the conditions and limitations in this regard. (December 2009) (10 Marks)
Answer:
Conditions for buy-back of Shares [Section 68(2)]:
No Company shall purchase its own shares or other specified securities, unless:

1. The buy-back is authorized by its articles.
2. A special resolution has been passed at a general meeting of the company authorizing the buy-back where buy-back is above 10% but up to 25% of the aggregate of paid-up capital and free reserves of the Company. However, where buy-back is up to 10% of paid-up capital and free re¬serves of the Company board resolution is sufficient.
3. The ratio of the aggregate of secured and unsecured debts owed by the Company after buy-back is not more than twice the paid-up capital and its free reserves, ie., to say:
    Secured + Unsecured Debts  Paid-up capital+ Free Reserves  ≤ 2
4. All the shares or other specified securities for buy-back are fully paid-up.
5. The buy-back of the shares or other specified securities listed on any recognized stock exchange is in accordance with the SEBI (Buy-Back of Securities) Regulations, 1998.
6. The buy-back in respect of shares or other specified securities for un¬listed public company and private companies is in accordance with the Companies (Share Capital & Debentures) Rules, 2014.

Limitations for Buy-back of Shares:

1. Prohibition of issue of shares of the same kind for next six months [Section 68(8)]:
   Where a company completes a buy-back of its shares or other specified securities, it shall not make a further issue of the same kind of shares or other securities including allotment of new shares under Section 62(1 )(a) of the Companies Act, 2013, [ie. right issue] or other specified securities within a stock option schemes, sweat equity or conversion of preference shares or debentures into equity shares will be allowed.
2. As per the proviso to Section 68(1) of the Companies Act, 2013, no buy-back of any kind of shares or other specified securities shall be made out of the proceeds of an earlier issue of the same kind of shares or same kind of other specified securities.

Question 18.
The Board of directors of Pious Limited gives you the following informa¬tion extracted from the company’s financial statements as of 31st March 2015:
Authorized share capital (1 crore share of rupees 10 each) 10 crores
Paid-up equity share capital 5 crores
General reserve 5 crores
Debenture redemption reserve 2 crores
Board of directors by the resolution passed at its meeting decides to go for buy-back of shares to the extent of 20% of companies paid-up share capital and free reserves. Examine the validity of Board’s Resolution with reference to the provisions of the Companies Act, 2013. (December 2015) (4 marks)
Answer:

1. As per Section 68(2) of the Companies Act, 2013, the Board of directors is authorized to buy-back up to 10% of the total paid-up equity capital and free reserves of the company by passing resolution at its meeting.
2. Under section 179(3)(b), the Board of directors of a Company has given power to buy-back of securities as per Section 68 by passing resolution at meetings of the Board.
3. As per Section 68(2)(c), a special resolution has to be passed at a general meeting of the company for buy-back above 1096 and up to 25% of the total paid-up equity capital and free reserves.
4. In the above case, the Board of directors of Pious Ltd. desires to buy back 20% of paid-up capital companies paid-up share capital and free reserves. This can be done by passing special resolution at general meeting and board resolution is not sufficient.
5. Total shares that can be bought back by passing special resolution are calculated as follows:
   [(INR 5 Crore (paid-up capital) + INR 5 Crore (General Reserve)] × 20%= INR 2 Crore.
6. The Company should also comply with the other conditions specified in Section 68.

Question 19.
Enkebee Limited wants to purchase its own 1,00,000 equity share @ Rs. 10 each out of the following:
(a) Unsecured loan Rs. 5 lakhs
(b) Balance of depreciation reserve for Rs. 3 lakhs
(c) Securities premium account Rs. 4 lakhs.
Examine the legality of the above transactions for the buy-back of securities of the company under the provision of the Companies Act, 2013. (June 2018) (4 marks)
Answer:
1. As per Section 68 of the Companies Act, 2013, a company may buy back its own shares or other specified securities out of:

• Free reserves, or
• Securities premium account, or
• Proceeds of the issue of any shares or other specified securities.

2. In terms of the above provisions:

1. Enkebee Limited can avail unsecured loan of INR 5,00,000 but it cannot be used for the buy-back of equity shares.
2. Enkebee Limited cannot use a depreciation reserve of INR 3,00,000 for the buy-back of equity shares.
3. Enkebee Limited can use the balance of INR 4,00,000 in securities premium account for the buy-back of equity shares.