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Shares may be issued against payment for acquiring assets by the company. It would even include an issue of shares made in lieu of acquiring Intellectual Property (IP) Rights.
This article attempts to discuss an issue and allotment of shares made by an Indian company to a person outside India against payment for the purchase of IP Rights.
Issue of shares for consideration other than cash
An issue of shares for non-cash consideration can be done by way of preferential allotment, as under Section 62(1)(c) of the Companies Act, 2013 authorized by a special resolution. Further, the price of such shares is to be ascertained by the valuation report of a registered valuer and is subject to conditions specified under Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014.
However, where any such person to whom shares are to be issued, is a resident outside India, then certain guidelines issued by the Reserve Bank of India (RBI) under the Foreign Exchange Management Act, 1999 will also be applicable and have to be complied with.
Master Circular on Foreign Investment
As per the extant guidelines issued by RBI, in 2015, in its Master Circular on Foreign Investment in India, Indian companies can issue equity shares, fully and mandatorily convertible debentures, fully and mandatorily convertible preference shares and warrants subject to the pricing guidelines/valuation norms and reporting requirements amongst other requirements as prescribed under Foreign Exchange Management (Transfer or Issue of security by a person resident outside India) Regulations, 2000.
The Pricing Guidelines therein specifically provide that, a company issuing shares/convertible debentures to any person resident outside India may receive the amount of consideration required to be paid for such shares or securities, among other ways, by conversion of a lump sum technical know-how fee or royalty due for payment.
For such an issue of shares or securities to a person resident outside India, the price shall have to be determined:
- in case of listed companies, on the basis of SEBI guidelines.
- for other companies by a SEBI registered Merchant Banker or a Chartered Accountant as per any internationally accepted pricing methodology on arm’s length basis and not less than the fair value of shares.
According to the guidelines, general permission has been granted for issue of shares/preference shares against lump-sum technical know-how fee, either under automatic route or government approval route (i.e., with approval of Secretariat of Industrial Assistance / Foreign Investment Promotion Board), subject to the pricing guidelines as mentioned above and payment of applicable taxes.
The same has been reiterated in the latest Foreign Direct Investment Policy in its Annexure-3 as follows:
‘6. Conversion of ECB/Lumpsum Fee/Royalty etc. into Equity
(ii) General permission is also available for issue of shares/preference shares against lump sum technical know-how fee, royalty due for payment, subject to entry route, sectoral cap and pricing guidelines and compliance with applicable tax laws.’
What constitutes Technical Know-how fee and Royalty?
The above-identified issue of shares would first require an understanding of the concepts of technical know-how and royalty payments.
In accordance with the Indian Accounting Standards, Technical know-how fee is a lump-sum or periodical amount payable to a provider of technical know-how in the form of design, drawings, training of personnel, or practical knowledge, skills or experience.
In Commercial and Industrial terms, Royalty, as described by the Income Tax Department, is usually a payment received by the owner of an intangible right or know-how under license in any technological transfer. These intangible rights may relate to use of Non-renewable resource (eg. petroleum and mineral resources), Patents, Trademarks, Franchise rights, Copyrights, art-work, software and the like.
It can be affirmed that an issue of shares against acquiring Intellectual Property Rights would be included in the category of issue of shares against technical know-how fee or royalty payments. Hence, such an issue would be considered as an issue of shares for consideration other than cash.
Procedure for Preferential Allotment under Companies Act, 2013
- A meeting of the Board of Directors for passing a special resolution considering allotment of shares for consideration other than cash.
- In case of a listed company, immediately after the Board meeting, an intimation of allotment of shares for consideration other than cash is required to be sent to the Stock Exchanges.
- When allotment is to be made to the Non-residents, consent from RBI shall be obtained.
- The allotment of shares (or other securities) shall be completed within a period of 12 months from the date of passing of the special resolution.
- For the issue of shares by the Company, the value of services and technical know-how provided may be determined by the Company based on any agreement or unwritten arrangements between the Company and the person in compliance with the Companies (Share Capital and Debentures) Rules, 2014.
Further, an issue of shares on a preferential basis should also comply with the conditions laid down in Section 42 of the Companies Act, 2013.
Compliance under Master Directions
Subsequent to the guidelines, RBI issued Master Directions for Foreign Investment in India in 2017 that specified the reporting of such issue of shares, for technical know-how fee or royalty, to be done in Form FC-GPR.
Form FC-GPR is required to be submitted by the Company not later than thirty days from the date of issue of shares together with a certificate from:
- a Company Secretary certifying that (i) all the requirements of the Companies Act have been complied with; (ii) terms and conditions of the Government approval, if any, have been complied with; the company is eligible to issue shares under these Regulations; and
- Statutory Auditors or Chartered Accountant indicating the manner of arriving at the price of the shares issued to the person resident outside India.
An issue and allotment of shares against payment to a provider of Intellectual Property Rights situated outside India would be regarded as an issue of shares for consideration other than cash. It would amount to a further issue of share capital and attract the application of the Companies Act, 2013 as well as the Foreign Direct Investment Policy and RBI Guidelines. With the growing complexities in commercial dealings, such an issue of shares in lieu of IP Rights would facilitate beneficial transactions in the purchase of international technology for the Indian companies.