The time for dematerialisation of physical securities by every private company, which is not a small company1, is fast approaching. The Ministry of Corporate Affairs ("MCA") on October 27, 2023, notified Companies (Prospectus and Allotment of Securities) Second Amendment Rules, 2023 ("Prospectus Amendment Rules") vide notification no. G.S.R. 802(E). The Prospectus Amendment Rules encompass two key changes: (i) surrendering of share warrants issued by public companies prior to the commencement of the Companies Act, 2013 and get the shares in dematerialized mode; and (ii) private companies, other than small companies, to mandatorily issue the securities only in dematerialized form and facilitate the dematerialization of all its existing securities.
In view of the foregoing, every private company (other than a small company), should, within 18 (eighteen) months from March 31, 2023 i.e., prior to September 30, 2024, comply with the aforesaid conditions of the Prospectus Amendment Rules by undertaking the following steps:
a. amendment of articles of association ("AoA") of the company by passing a special resolution to authorise shareholders to hold securities in dematerialised form;
b. appointment of a Securities and Exchange Board of India ("SEBI") registered Registrar and Transfer Agent ("RTA") which inter alia includes executing a tripartite agreement between the company, RTA and depository i.e., either National Securities Depository Limited or Central Depository Services Limited. However, the same is not mandatory if the company has an inhouse arrangement;
c. facilitation of dematerialisation of all its existing securities by making an application to a depository and obtaining an International Securities Identification Number ("ISIN") for each type of security and thereafter inform all its existing security holders about such facility;
d. ensure timely payment of fees (admission as well as annual) to the depository and registrar to an issue and RTA in accordance with the agreement executed between the parties.
e. Maintain a security deposit of not less than 2 (two) years fees with the depository and RTA at all times and comply with the regulations or directions or guidelines or circulars, if any, issued by SEBI or depository from time to time with respect to dematerialisation of shares and matters incidental or related thereto such as applicable provisions of Depositories Act, 1996, SEBI (Depositories and Participants) Regulations, 2018 and SEBI (Registrars to an Issue and share Transfer Agents) Regulations, 1993; and
f. Filing e-Form PAS-6 (half yearly return for reporting of shares held in demat form) with the Registrar of Companies within a period of 60 (sixty) days from the conclusion of each half year duly certified by a company secretary in practice or chartered accountant in practice.
While dematerialization of securities is being mandated under the Prospectus Amendment Rules, it does not bar the security holder to continue to hold his existing securities in a physical form. However, after September 30, 2024, when the security holder decides to transfer these securities, dematerialization would be mandatory prior to initiating the transaction. Further, the shareholder will be able to subscribe to any further issue only after dematerialising the securities.
Dematerialisation Process
Securities can be credited to depositories either for dematerialisation of physical securities or on fresh issue of securities in dematerialised form. The process of dematerialization requires2 investors to open demat accounts with Depository Participants ("DP") who act as intermediaries between them and the depository. A request for conversion of securities held in physical form may be done by filing an application in Dematerialisation Request Form ("DRF") to the DP, along with the certificates of securities to be dematerialised (if the securities are required to be converted from physical to demat form). Before submission, the investor is required to deface the certificates by writing "Surrendered for Dematerialisation".
Pursuant to confirming the accuracy of details submitted in DRF, the DP will provide the investor with an acknowledgement slip that has been properly signed and stamped. The DP after electronically registering such a request with the depository will then forward the DRF so received, together with the security certificates, to the company or its RTA.
Following the verification, the company or its RTA will notify the depository to approve an electronic credit for that security in the investor's name (the investor will be the beneficial owner). Upon receiving this notification, the Depository will initiate the necessary credit entries into the investor's account.
Conclusion
From a legal standpoint, introduction of Prospectus Amendment Rules is an attempt towards mitigating disputes and risks associated with securities issued or held in physical form. The process of dematerializing shares by private companies offers a multitude of benefits, including enhanced efficiency, transparency, and security in the trading of securities and increasing accountability of private companies to identify the true owners of the securities. By transitioning from physical certificates to electronic form, companies stand to streamline their operations, reduce costs, and align with evolving market standards. Embracing dematerialization not only meets regulatory requirements but also positions companies to thrive in an increasingly digitized financial landscape, fostering investor confidence and facilitating smoother transactions in the securities market.
Indeed, the process of dematerializing shares for private companies entails certain operational and compliance costs, which extend to both the companies themselves and their shareholders. These expenses include payments for admission and annual fees to various entities such as the depository, RTA, and DP, among others. While these costs may initially seem burdensome, it's essential to consider the long-term benefits and efficiencies that dematerialization brings.
Footnotes
1 Small companies is defined under Section 2 (85) of the Companies Act, 2013 read with Rule 2(1)(t) of the Companies (Specification of Definitions Details) Rules, 2014 to mean a company, other than a public company, having paid up share capital not exceeding Rs. 4 crores and turnover not exceeding Rs. 40 crores. However, a holding company or a subsidiary company, a company registered under section 8, a company or body corporate governed by any special Act will not be considered as a small company.
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