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CSR - A new responsibility on India Inc

DS Mahajani 
on 14 March 2014

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The much awaited notification on Corporate Social Responsibility (u/s 135) of the Companies Act, 2013 (“the Act”) along with Companies (Corporate Social Responsibility Policy) Rules 2014 (“the CSR Rules”) has been notified by the Ministry of Corporate Affairs (“the MCA”) on 27th February, 2014. The MCA has also notified the amended Schedule VII of the Act on the same day for its implementation from 1st April, 2014.

The Corporate India has warmly accepted the CSR provisions of the Act for implementation w.e.f. 1st April, 2014. The article attempts to enlighten few points on the CSR provisions to know its impacts and finer points emerged after the brand new CSR Rules notified by the MCA.

As we all know India is the first country in the world to regulate Social Responsibility thru corporate sector. It was widely debated whether CSR should be a culture or a compulsion. This is because; compulsion generally does not yield the expected results. There are corporate houses in India, which are engaged with CSR as a part of their commitment to the society. For instance, Tata and Birlas were first ones to introduce provident funds for their employees much before it was made the Act. On the other side, it is also equally true that in India certain things can be done only if it is made compulsory. Hence, with this innovative regulatory tool, the government is expecting corporate sector to spend around Rs.12,000 to 15,000 crores annually on the specified social objectives mentioned in the Schedule VII of the Act.

As per the Section 135 of the Act, every company having net worth of Rs.500 crores or more or turnover of Rs.1,000 crores or more or net profits of Rs.5 crores or more to constitute Corporate Social Responsibility Committee (“CSR Committee”) of the Board consisting of three or more directors, out of which atleast one director shall be an Independent Director. The section also stipulates that based on the recommendation of the CSR Committee, Boards of every such company shall approve the CSR Policy and shall ensure the company spends in every financial year, two percent of average net profits of the company made during the three preceding financial years in pursuance of its CSR Policy. It is also provided that if the company fails to spend such amount, the Board shall, in its report specify the reasons for not spending the amount.

As we all know, after enactment of the Act and as a part of consultative process, the MCA had invited comments on the draft CSR Rules (“the Draft Rules”) from all the stakeholders and based on that the MCA has notified the CSR Rules and pursuant to the section 467, amended the Schedule VIII of the Act. My observations and comments on the aforesaid provisions are mentioned in the following paragraphs.

1. As it can be seen nowhere in the Act and nor in the Draft Rules, the word 'Corporate Social Responsibility’ was defied. But for the first time, the word ‘Corporate Social Responsibility’ is defined in the rules, which means and includes but not limited to: (i) Projects or programs relating to activities specified in Schedule VII of the Act; or (ii) Projects or programs relating to activities undertaken by the Board in pursuance of recommendations of the CSR Committee of the Board as per the declared CSR Policy of the company subject to the condition that such policy will cover subjects enumerated in Schedule VII of the Act.

2. The rule has defined “Net Profit”, which is the base for corpus for CSR activities. “Net Profit” means a net profit of the company as per its financial statements prepared in accordance with the applicable provisions of the act, but shall not include namely (i) Any profit arising from any overseas branch or branches of the company, whether operated as a separate company or otherwise and (ii) Any dividend received from other companies in India, which are covered under and complying with Section 135 of the Act. The definition also clarifies that net profit in respect of the financial year for which the relevant financial statements were prepared in accordance with the provisions of the Companies Act, 1956, shall not require to be re-calculated in accordance with the provisions of the Act.

3. CSR Policy of the Company shall include (1) A list of CSR projects or program which a company plans to undertake falling within the purview of Schedule VII of the Act, specifying modalities of execution of such projects or programs and implementation schedule for the same; and (2) Monitoring process of such projects or programs. Hence, CSR Policy of a company should cover items mentioned in Schedule VII of the Act and to keep in mind three points (a)specifying modalities of execution of such projects (b) implementation schedule (c) monitoring process of such projects This imply that mere formulation of CSR policy statement by companies would not suffice the requirement but would also require to ensure that proper frame work of execution and monitoring process for such projects or programs is also in place.

4. The CSR Policy of a company shall specify that surplus arising out of the CSR projects or program shall not form of part of business profits of a Company. This clarifies that CSR spending is an expense and therefore it is to be charged to profit & loss accounts and surplus arising out of CSR spending will not be treated as appropriation of profits by companies. 

5. There was confusion on applicability of provisions of Section 135 of the Act, i.e. whether a company falls into any one of the three criteria (i.e. net worth or turnover or net profits) in any financial year would be required to comply with the provisions of the Act forever. The Rule 3(5) has clarified the position that every company which ceases to be a company covered under section 135(1) for three consecutive financial years shall not be required to constitute a CSR committee and to comply with the provisions of Section 135(2) to (5), till such time that it meets the criteria prescribed under section 135(1) of the Act. Therefore, in the case of a company out of three financial years, if it incurs losses for two years, it will have to comply the CSR provision. This appears to be a difficult to comply for companies passing from adverse financial position or companies having a small capital base.

6. CSR activities shall be undertaken by the Company shall be as per its CSR Policy, as projects or programs or activities either new or ongoing excluding the activities undertaken in pursuance of its normal course of business. Here one should also read the proviso of Section 135(5) of the Act, which states the company shall give preference to the local area and areas around it where it operates, for spending the amount earmarked for Corporate Social Responsibility. A reference of this is also given in the format for the annual report on CSR activities to be included in the Directors’ Report.

7. The Board may decide to undertake its CSR activities thru trust, society or company established u/s 8 of the Act, which shall to have an established track record of three years in undertaking similar programs or projects. In such cases onus is placed on the Board to ensure modalities of utilization of funds on such programs or projects and monitoring and reporting mechanism. This means mere issuing cheque by companies for CSR activities through trust or society would not be sufficient to comply the provision of the rules. The Company will also now requires to exercise control over the programs or projects undertaken thru trust or society by having proper monitoring and reporting system for the CSR funds deployed by them.

8. Companies can collaborate with other companies for undertaking projects or programs or CSR activities provided that each of the companies would be able to monitor and report the CSR activities and its spending separately.

9. The CSR projects or programs that benefit only the employees of the company and their families shall not be considered as CSR activities u/s 135 of the Act.

10. The rules allows companies to build CSR capacities of their own personnel as well as those of their implementing agencies through institutions subject to the other conditions prescribed, but such expenditure shall not exceed 5% of the total CSR expenditure of the company in one financial year. If companies apply this provision in its true sense, CSR is going to be a budding profession in the years to come in India.

11. For the first time, foreign company is covered under CSR provisions. As per Section 2(42) “foreign company” means any company or body corporate incorporated outside India which (a) has a place of business in India whether by itself or through an agent, physically or through electronic mode; and (b) conducts any business activity in India in any other manner. It is also provided that in case of a foreign company covered under the act/rules, net profit means the net profit of such company as per profit and loss account prepared in terms of 381 (1) (a) read with section 198 of the Act. The foreign company in addition to file with balance sheet and profit & loss account u/s 381(b) of the Act would also to also contain an Annexure regarding CSR reporting by the company.

12. As per the Section 135 of the Act, CSR Committee shall have atleast one Independent Director. However, the MCA after obtaining suggestions on the Draft Rules has made substantial departure from the provision of the Act and has taken a decision that (a) an unlisted public company or a private company covered u/s 135(1) of the Act and which is not required to appoint an independent director pursuant to Section 149(4) of the Act, shall have its CSR Committee without such director; (b) a private company having only two directors on its board shall constitute its CSR Committee with two such directors; and (c) a foreign company covered under these rules, the CSR Committee shall comprise of at least two persons of which one person shall as specified under section 380(1)(d) of the Act and another person shall be nominated by the foreign company. [Rule 5] This provision is surely a welcome move and has given sigh of relief to the above mentioned companies from getting Independent Directors just to comply the requirement of constituting the CSR Committee of the Board. However, the mute question here is that, can the MCA make the Rules, which overrides the Act, given the fact that the Central Government is vested with the Powers only to make rules and remove difficulties as provided u/s 469 and 470 of the Act, respectively.

13. Two points to be observed to qualify an expenditure as CSR expenditure – i.e. whether expenditure incurred  

(a) for projects or programs relating to CSR activities approved by the Board on the recommendation of its CSR Committee ; and

(b) falls within the purview of Schedule VII of the Act.

14. The Board’s report of a company under the rules, pertaining to a financial year commencing from 1st April 2014 shall include an annual report on CSR containing the particulars specified in Annexure to the Rules.

15. It is also mandatory for the company to display CSR policy and its report on the website of the company.

16. The activities mentioned in the earlier Schedule VII of the Act were mostly ‘one liner’ and were general in nature. The MCA has rightly amended the Schedule VII and thereby narrated all activities elaborately to convey its meaning for implementation.

Before concluding:

As we know since last one decade or so enough has been discussed on “inclusive growth” through social investments in India. The government had also given its priorities to the social sector with its limited resources. Now, it is the turn of India Inc. to take up the social causes and discharge corporate social responsibility to achieve the sustainable economic growth by taking all stakeholders together and make India not only an excellent business destination but socially too.

D.S. Mahajani, M.Com, ACS*

*The views are expressed personal


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