Related Party Transactions under Sec 188 of Co Act,13

CS M.Kurtrala Nathan , Last updated: 21 August 2014
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Introduction:

‘Related party’ for a company includes promoters, those who exercise ‘significant influence’ on the management or key employees. Holding and subsidiary companies, group companies and joint ventures are also deemed ‘related’.

It is perfectly okay to enter into generous deals with the relatives, but related party deals by listed companies are frowned upon. This is because a listed company isn’t owned by its promoters or even its directors; it is owned by thousands of public investors who have invested in its shares.

Shareholders don’t participate in the day-to-day decisions of a company; these are made on their behalf by the board of directors. So when a company enters into related party transactions with promoters, directors, relatives or entities controlled by them, there is a worry that these deals may favour the latter and cause a loss to public share- holders.

The most common types of related party deals in India are of companies renting premises from promoters, extending liberal loans and guarantees to group companies and setting hefty pay for employees who are related to the promoter. Such related party deals by companies aren’t banned, but they need to be done at arm’s length, at market prices and certified by auditors.

A Company shall enter into any contract or arrangement with a related party only with the consent of Board of Directors given by a resolution at a meeting of the Board and subject to conditions as prescribed under Rule 15 of the Companies (Meeting of Board and its Powers) Second Amendment Rules,2014.

Contract or arrangement with a related party.-

A company shall enter into any contract or arrangement with a related party subject to the following conditions, namely:-

Disclosure in Board meeting Notice:

The agenda of the Board meeting at which the resolution is proposed to be moved shall disclose-

(a) the name of the related party and nature of relationship

(b) the nature, duration of the contract and particulars of the contract or arrangement;

(d) any advance paid or received for the contract or arrangement, if any;

(e) the manner of determining the pricing and other commercial terms, both included as part of contract and not considered as part of the contract;

(f) whether all factors relevant to the contract have been considered, if not, the details of factors not considered with the rationale for not considering those factors; and

(g) any other information relevant or important for the Board to take a decision on the proposed transaction.

Non- Participation of Interested Director:

Where any director is interested in any contract or arrangement with a related party, such director shall not be present at the meeting during discussions on the subject matter of the resolution relating to such contract or arrangement

Prior Approval by shareholders:

A company shall not enter into a transaction or transactions, where the transaction or transactions to be entered as contract or arrangement, except with the prior shareholder approval by way of special resolution.

S.No	Criteria	Limit
1*	Sale, purchase or supply of any goods or materials directly or through appointment of agents	10 % of Turnover of the Company or Rs.100 Crores whichever is lower.
2*	Selling or otherwise disposing of, or buying, property of any kind directly or through appointment of agents	10 % of Net worth of the Company or Rs.100 Crores whichever is lower.
3*	Leasing of property of any kind	10 % of Net worth of the Company or 10 % of Turnover of the Company or Rs.100 Crores whichever is lower.
4*	Availing or rendering of any services directly or through appointment of agents for purchase or sale of goods, materials ,services or property	10 % of Turnover of the Company or Rs.50 Crores whichever is lower.
*Limit shall apply for transaction or transactions entered into either individually or taken together with the previous transactions during a FY.
5	Appointment to any office or place of profit in the company, its subsidiary company or associate company	Monthly Remuneration of Rs.2,50,000/-
6	Underwriting the subscription of any securities or derivatives thereof, of the company	1% of Net Worth of the Company.

A member of the company shall not vote on such special resolution, to approve any contract or arrangement which may be entered into by the company, if such member is a related party.

Exempted Transactions:

The transactions entered into by the company in its ordinary course of business with related parties at arms’ length basis need not comply with approval requirements.

Justification in Board Report:

Every contract or arrangement shall be referred to in the report of the directors to the shareholders along with the justification for entering into such contract or arrangement.

Voidable Contract or Arrangement:

Where any contract or arrangement is entered into by a director or any other employee-

i. Without obtaining the consent of the Board or

ii. Without approval by a special resolution in the general meeting and

iii. It is not ratified by the Board or, as the case may be, by the shareholders at a meeting within three months from the date on which such contract or arrangement was entered into,

such contract or arrangement shall be voidable at the option of the Board

Indemnify loss by Director:

If the contract or arrangement is with a related party to any director, or is authorized by any other director, the directors concerned shall indemnify the company against any loss incurred by it.

It shall be open to the company to proceed against a director or other employee who had authorized for entering into such contract or arrangement in contravention of the provisions of this section for recovery of any loss or damage sustained by it as a result of such contract or arrangement.

Disclosures in General meeting notice:

The explanatory statement to be annexed to the notice of a general meeting convened pursuant to section 101 shall contain the following particulars namely:-

(a) name of the related party ;

(b) name of the director or key managerial personnel who is related, if any;

(d) nature, material terms, monetary value and particulars of the contract or arrangement;

(e) any other information relevant or important for the members to take a decision on the proposed resolution

WOS & Holding Company:

In case of wholly owned subsidiary, the special resolution passed by the holding company shall be sufficient for the purpose of entering into the transactions between wholly owned subsidiary and holding company

Penalty:

Any director or other employee of a public company, who had authorized the contract or arrangement in violation of the provisions of this section shall,—

Listed Company

Imprisonment for a term up to 1 year or

Fine of Rs.25,000/- to Rs.5,00,000/- or

Both.

Other Company

Fine of Rs.25,000/- to Rs.5,00,000/-

RPTs –SEBI Vs CA,2013

*S.No*	*SEBI – Clause 49*	*Companies Act,2013&Rules – Sec.188*
1	A ‘related party' is a person or entity that is related to the company. Parties are considered to be related if one party has the ability to control the other party or exercise significant influence over the other party, directly or indirectly, in making financial and/or operating decisions and includes the following: 1. A person or a close member of that person’s family is related to a company if that person: a. is a related party under Section 2(76) of the Companies Act, 2013;or b. has control or joint control or significant influence over the company; or c. is a KMP of the company or of a parent of the company; or 2. An entity is related to a company if any of the following conditions applies: a. The entity is a related party under Section 2(76) of the Companies Act, 2013; or b. The entity and the company are members of the same group (which means that each parent, subsidiary and fellow subsidiary is related to the others); or c. One entity is an associate or joint venture of the other entity (or an associate or joint venture of a member of a group of which the other entity is a member); or d. Both entities are joint ventures of the same third party; or e. One entity is a joint venture of a third entity and the other entity is an associate of the third entity; or f. The entity is a post-employment benefit plan for the benefit of employees of either the company or an entity related to the company. If the company is itself such a plan, the sponsoring employers are also related to the company; or g. The entity is controlled or jointly controlled by a person identified in (1). h. A person identified in (1)(b) has significant influence over the entity (or of a parent of the entity); or A RPT is a transfer of resources, services or obligations between a company and a related party, regardless of whether a price is charged.	Section 2(76) - “related party”, with reference to a company, means— (i) a director or his relative; (ii) a key managerial personnel or his relative; (iii) a firm, in which a director, manager or his relative is a partner; (iv) a private company in which a director or manager is a member or director; (v) a public company in which a director or manager is a director or holds along with his relatives, more than two per cent. of its paid-up share capital; (vi) any body corporate whose Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager; (vii) any person on whose advice, directions or instructions a director or manager is accustomed to act Provided that nothing in sub-clauses (vi) and (vii) shall apply to the advice, directions or instructions given in a professional capacity; (viii) any company which is— (A) a holding, subsidiary or an associate company of such company; or (B) a subsidiary of a holding company to which it is also a subsidiary; (ix)a director or key managerial personnel of the holding company or his relative with reference to a company, shall be deemed to be a related party.Rule 3 of Companies (Specification of definition details)Rules,2014
2	All Related Party Transactions shall require prior approval of the Audit Committee.	A Company shall enter into any contract or arrangement with a related party only with the consent of Board of Directors given by a resolution at a meeting of the Board and subject to conditions as prescribed under Rule 15 of the Companies (Meeting of Board and its Powers) Second Amendment Rules,2014 The Audit committee shall approve or any subsequent modification of transactions of the company with related parties.
3	The company shall formulate a policy on materiality of RPTs and also on dealing with Related Party Transactions.	There is no such provision
4	All material Related Party Transactions shall require approval of the shareholders through special resolution and the related parties shall abstain from voting on such resolutions. A transaction with a related party shall be considered material if the transaction /transactions to be entered into individually or taken together with previous transactions during a financial year exceeds; 5% of the annual turnover or 20% of the net worth of the company as per the last audited financial statements of the company,whichever is higher.	All prescribed RPTs shall require prior approval of the shareholders through special resolution and member, who is a related party, shall not vote on such special resolution. A company shall not enter into a transaction or transactions, where the transaction or transactions to be entered as contract or arrangement with respect to Section 188 and with criteria as prescribed under Rule 15 of the Companies (Meeting of Board and its Powers) Second Amendment Rules,2014.
5	Details of all material transactions with related parties shall be disclosed quarterly along with the compliance report on corporate governance. The company shall disclose the policy on dealing with RPTs on its website and also in the Annual Report	There is no such provision.
6	There is no exemption for transaction in the ordinary course of business or at arm’s length.	The transactions entered into by the company in its ordinary course of business with related parties at arms’ length basis need not comply with approval requirements.

Term	Definition /Meaning
Office or Place of profit	“office or place of profit” means any office or place— (i) where such office or place is held by a director, if the director holding it receives from the company anything by way of remuneration over and above the remuneration to which he is entitled as director, by way of salary, fee, commission, perquisites, any rent-free accommodation, or otherwise; (ii) where such office or place is held by an individual other than a director or by any firm, private company or other body corporate, if the individual, firm, private company or body corporate holding it receives from the company anything by way of remuneration, salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;
Arms’ Length transaction	arm’s length transaction” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest. Section 92F(ii) of the Income Tax Act,1961,defines the Arms length price as a price which is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions. The Concept of an arms’ length transaction ensures that both parties in the deal are acting in their own self-interest and are not subject to any pressure or compulsion from other party.
Related Party	Section 2(76) - “related party”, with reference to a company, means— (i) a director or his relative; (ii) a key managerial personnel or his relative; (iii) a firm, in which a director, manager or his relative is a partner; (iv) a private company in which a director or manager is a member or director; (v) a public company in which a director or manager is a director or holds along with his relatives, more than two per cent. of its paid-up share capital; (vi) any body corporate whose Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager; (vii) any person on whose advice, directions or instructions a director or manager is accustomed to act Provided that nothing in sub-clauses (vi) and (vii) shall apply to the advice, directions or instructions given in a professional capacity; (viii) any company which is— (A) a holding, subsidiary or an associate company of such company; or (B) a subsidiary of a holding company to which it is also a subsidiary; (ix)a director or key managerial personnel of the holding company or his relative with reference to a company, shall be deemed to be a related party.Rule 3 of Companies (Specification of definition details)Rules,2014
Relative	Section 2(77)- ‘‘relative’’, with reference to any person, means any one who is related to another, if— (i) they are members of a Hindu Undivided Family; (ii) they are husband and wife; or (iii) one person is related to the other in such manner as prescribed under Rule 4 of Companies (Specification of definition details)Rules,2014; A person shall be deemed to be the relative of another, if he or she is related to another in the following manner, namely:- (1) Father(includes step-father) (2) Mother(includes the step-mother) (3) Son (includes the step-son) (4) Son’s wife. (5) Daughter. (6) Daughter’s husband. (7) Brother(includes the step-brother) (8) Sister (includes the step-sister)
Ordinary course of business	The meaning of “Ordinary Course of Business” has not been defined in the act and may lead to ambiguity to the companies. In general, Ordinary Course of Business means in the usual course and routine of business, customs and practice of a certain business.