Can a "Director" under the Companies Act, 2013 be called by whatever name

Clause (34) of Section 2 of the Companies Act, 2013 reads as follows:

““director” means a director appointed to the Board of a company;”

It may be noted that the language of the definition of a ‘director’ under the Companies Act, 2013 has undergone a change in comparison to that of Clause (13) of Section 2 of the Companies Act, 1956, which defined a ‘director’ as,– "director" includes any person occupying the position of director, by whatever name called.  A moot question that arises as a consequence is whether the absence of the words, “whatever name called”, in the definition of a ‘director’ in the Companies Act, 2013 would imply that under the Companies Act, 2013, a director would not be at liberty to be called by any other name such as ‘governors’ or ‘managers’ and the like.

Sub-section (2) of Section 266 of the Companies Act, 2013 provides, in relevant part, that, “If the Tribunal is satisfied on the basis of the information and evidence in its possession with respect to any person who is or was a director .  .  . of a sick company, that such person by himself or along with others had diverted the funds or other property of such company for any purpose other than the purposes of the company or had managed the affairs of the company in a manner highly detrimental to the interests of the company, the Tribunal shall, by order, direct the public financial institutions, scheduled banks and State level institutions not to provide, for a maximum period of ten years from the date of the order, any financial assistance to such person .  .  . or any company .  .  . of which such person is a director, by whatever name called, .  .  .”

It is pertinent to note the words, “or any company .  .  . of which such person is a director, by whatever name called”, occurring in sub-section (2) of Section 266 of the Companies Act, 2013.  The company that is being referred to herein, as per the definition in clause (20) of Section 2 for purposes of the Companies Act, 2013, would mean a company incorporated under this Act or under any previous company law.  It follows that the words, “a director, by whatever name called”, occurring in Section 266(2) would also refer to a director of a company incorporated under the Companies Act, 2013.  Consequently, the absence of the words, “whatever name called”, in the definition of a ‘director’ in the Companies Act, 2013 would not imply that under the Companies Act, 2013, a director would not be at liberty to be called by any other name such as ‘governors’ or ‘managers’ and the like.

Further, when clause (34) of Section 2 of the Companies Act, 2013 uses the words, ““director” means a director”, in relation to the word ‘director’ occurring therein, the intention of the legislature does not appear to refer to in terms of the nomenclature, but refers to in terms of the ‘nature’ and ‘functions’ of a director.  In other words, there could be directors of a company who are de jure as well as de facto, in which case, for the purposes of the definition of a director under clause (34) of Section 2 of the Companies Act, 2013 which would be applicable to the provisions relating to directors such as age limit, minimum number of directors, directors’ qualification shares and the like, only those directors who are appointed on the Board shall be considered.  The word appointment here means lawful appointment.

Moreover, it may also be noted that the Companies Act, 2013 has not provided any penal consequences for calling the directors by whatever name.  A moot point that arises is whether the provisions of Section 450 of the Companies Act, 2013, which provides that for Punishment where no specific penalty or punishment is provided, would be attracted if the directors are called by whatever name.

Section 450 of the Companies Act, 2013 begins with the words, “If a company or any officer of a company or any other person contravenes any of the provisions of this Act .  .  .”.  In order to attract the provisions of Section 450 of the Companies Act, 2013, there has to be a contravention of any provision of the Act in the first place.

Black’s Legal Dictionary, Ninth Edition defines the term, “Contravene”, at 377, as,– “To violate or infringe;”.  P. Ramanatha Aiyar’s The Major Law Lexicon, 4^th Edition 2010 quotes from Ballentine’s Law Dictionary, 3^rd Edition, the meaning the term, “Contravene”, at 1495, as,– “To go against;”.

The Supreme Court of India, in State Of Kerala v. Unni, AIR 2007 SC 819, at 827, has held that “A penal provision must be definite.”.  In G P Singh’s Principles of Statutory Interpretation, 12^th Edition 2010, at 893-894, it has been stated that “Clear language is now needed to create a crime.  A statute enacting an offence or imposing a penalty is strictly construed.”

In view of the above, inasmuch as there is no express requirement to call or refrain from calling a director by whatever name in the Companies Act, 2013, as also in view of the absence of any penal provision expressly provided in the Companies Act, 2013 for calling the director by whatever name, the question of contravention of any provision under the Companies Act, 2013 for calling the director by whatever name whereby Section 450 of the Companies Act, 2013 being attracted does not arise.  Consequently, a director under the Companies Act, 2013 may be called by whatever name, as long as all requirements with respect to such director’s appointment are duly complied with.

Share Transfer Restrictions in Shareholders' Agreements - Whether to be incorporated in the Articles of Association of a Public Company?

A Shareholders’ Agreement is a contract to which every shareholder in a company would be a party.  It is an instrument specifying the terms and conditions concerning dispute resolution, the rights, duties, powers and the like of shareholders and procedures as to the management of the affairs of the company.  It may contain provisions to ensure that certain decisions of the company are taken by consensus and discussion instead of the minority being crushed under the majority’s diktat.  It also provides for matters such as restrictions on transferability of shares by way of pre-emption clauses such as ‘right of first refusal’, ‘right of first offer’, and constrained transfer of shares such as ‘tag-along rights’ and ‘drag-along rights’. Unlike the articles of association of a company, a shareholders’ agreement is a private document and may contain certain matters that the parties may desire to be confidential.  Be that as it may, in the context of the private company, the Supreme Court of India, in V. B. Rangaraj v. V. B. Gopalakrishnan, AIR 1992 SC 453, at 455, has held as follows:

“Whether under the Companies Act or Transfer of Property Act, the shares are, therefore, transferable like any other movable property.  The only restriction on the transfer of the shares of a company is as laid down in its Articles, if any.  A restriction which is not specified in the Articles is, therefore, not binding either on the company or on the shareholders.  The vendee of the shares cannot be denied the registration of the shares purchased by him on a ground other than that stated in Articles.”

Subsequent to this judgement, it has it had become common practice to include restrictive covenants in the shareholders’ agreement e.g. in case of joint venture companies such restrictions were being incorporated into the Articles of the company.

The first limb of Sub-section (2) of Section 111A of the Companies Act, 1956 reads as follows:

“Subject to the provisions of this section, the shares or debentures and any interest therein of a company shall be freely transferable:”

In Western Maharashtra Development Corporation Ltd. v. Bajaj Auto Ltd., [2010] 154 Comp Cas 593 (Bom), a pre-emption clause in a shareholders’ agreement was held by the single Judge to be violative of Section 111A of the Companies Act, 1956.

Overruling the above ratio of the judgement, the Division Bench of the Bombay High Court in the case of Messer Holdings Limited v. Shyam Madanmohan Ruia [2010] 104 SCL 293 (Bom) : [2010] 159 Comp Cas 29, held as follows:

“…an agreement by a particular shareholder or between two shareholders relating only to their own shares (by way of pledge, sale or for preemption) is a consensual arrangement entered into by them, in exercise of their right of free transferability and it consequently imposes no restriction on transferability…The concept of free transferability of shares of a public company is not affected in any manner if the shareholder expresses his willingness to sell the shares held by him to another party with right of first purchase (preemption) at the prevailing market price at the relevant time. So long as the member agrees to pay such prevailing market price and abides by other stipulations in the Act, Rules and Articles of Association there can be no violation. For the sake of free transferability both the seller and purchaser must agree to the terms of sale…. The fact that shares of public company can be subscribed and there is no prohibition for invitation to the public to subscribe to shares, unlike in the case of private company, does not whittle down the right of the shareholder of a public company to arrive at consensual agreement which is otherwise in conformity with the extant regulations and the governing laws… it is open to the shareholders to enter into consensual agreements which are not in conflict with the Articles of Association, the Act and the Rules, in relation to the specific shares held by them; and such agreement can be enforced like any other agreement. That does not impede the free transferability of shares at all…”.

Section 111A of the Companies Act, 1956 was inserted by the Depositories Act, 1996 w.e.f. 20.09.1995.  Prior to such insertion, Section 111 of the Companies Act, 1956 was in place, which provided for remedy of appeal to a transferee/transferor who wished to seek relief with regard to the transmission or transfer, of shares in the company, be it a public company or a private company by making an application for rectification of register of members.  Subsequently, sub-section (2) of Section 22A of the Securities Contracts (Regulation) Act, 1956 which came into effect from 17.01.1986 provided that securities of companies are freely transferable.  A company could refuse share transfers only on four grounds specified therein. Section 22A of the SCRA was inserted with the object of regulating, the right to refusal of the board of directors of a company, when transferring members’ shares.  The object of its insertion was never to restrict the right of shareholders to deal with their shares or to enter into any consensual arrangements with regard to their shares, i.e. through preemption rights, calls, puts etc. but rather the legislative intent was to rein the free will that had been given to directors with regard to refusal.

The enactment of the Depositories Act, 1996 omitted Section 22A of the SCRA and introduced Section 111A in the Companies Act, 1956.  Therefore, the intention of the legislature behind introducing these provisions was never to restrict shareholders from entering into any contract or arrangement by and among themselves with respect to the transfer of their individual shares.

The expression “shares… of a company shall be freely transferable” occurring in sub-section (2) of Section 111A of the Companies Act, 1956 is in the context of authority of the board to register the transfer of identified shares of the members in the name of the transferee, unless there is sufficient cause for their refusal to register such transfer of shares.

Sub-section (2) of Section 58 of the Companies Act, 2013 reads as follows:

“Without prejudice to sub-section (1), the securities or other interest of any member in a public company shall be freely transferable:

Provided that any contract or arrangement between two or more persons in respect of transfer of securities shall be enforceable as a contract.”

While the language of the first limb of sub-section (2) of Section 58 of the Companies Act, 2013 and that of Section 111A of the Companies Act, 1956 are almost identical, the new Act has brought in the proviso which appears more as an explanation to the first limb of sub-section (2).  The intention of the legislature behind inserting the proviso seems to be to codify the common law principle as laid down in Messer Holdings Limited v. Shyam Madanmohan Ruia as cited supra.  This has unequivocally laid to rest the uncertainty that was pervading in respect of the covenants pertaining to the rights such as that of pre-emption in shareholders’ agreements.

The moot point that arises for consideration in the context of the proviso to Section 58 (2) of Companies Act, 2013, however, is that whether covenants such as the restrictions on the transferability of shares in the shareholders agreements would continue to be required to be incorporated in the Articles of the public company?

It is pertinent to note that the ratio of V. B. Rangaraj v. V. B. Gopalakrishnan as cited supra would continue to hold the field in the absence of anything to the contrary provided in the regard in the Companies Act, 2013 even if it was in the context of a private company.  Inasmuch as Section 82 of the Companies Act, 1956 is applicable to both public as well as private companies, and since there is nothing provided in the Companies Act, 2013 in respect of the incorporation of restrictive clauses containing in the shareholders’ agreements in the articles of association of a company, except that such agreements are enforceable as contracts.  In such an event, the ratio of V. B. Rangaraj v. V. B. Gopalakrishnan would have to be complied with.

Appointment of Additional Director without DIN by the Sole Director

ABC Pvt. Ltd. Co. is a company which consisted of two members on the Board.  One of the directors died before signing the financials of the company.  The sole director intends to appoint one of the senior officers of the company, who is experienced, efficient and well versed with the financials, as an additional director.   But the said officer does not have Director Identification Number.   Since the financials are urgently required to be signed, the sole director intends to go ahead with the appointment of the additional director.

In the context of the above, the following issues arise for consideration.

1.        Whether a director who is a sole member on the Board of Directors can legally appoint an additional director?

2.        Whether the appointment of an individual who does not have a Director Identification Number is valid in law?

3.        If the answer to the Query No. 2 is in the affirmative, whether signing of the financials of the company by such additional director, pending his allotment of the Director Identification Number, valid in law?

Section 28 of the Companies Act, 1956 provides for Adoption and application of Table A in the case of companies limited by shares, and reads as follows:

“(1) The articles of association of a company limited by shares may adopt all or any of the regulations contained in Table A in Schedule I.

(2) In the case of any such company which is registered after the commencement of this Act, if articles are not registered, or if articles are registered, in so far as the articles do not exclude or modify the regulations contained in Table A aforesaid, those regulations shall, so far as applicable, be the regulations of the company in the same manner and to the same extent as if they were contained in duly registered articles.”

The Supreme Court of India, In Seth Mohan Lal v. Grain Chambers Ltd., (1968) 1 Comp LJ 275 (SC), has held as follows:

“The provisions of Table A will apply to a Company except to the extent that they are not modified or excluded by its articles.”

Regulation 75 of the Table ‘A’ Regulations as contained in Schedule I to the Companies Act, 1956 provides as follows:

"The continuing directors may act notwithstanding any vacancy in the Board; but, if and so long as their number is reduced below the quorum fixed by the Act for a meeting of the Board, the continuing directors or director may act for the purpose of increasing the number of directors to that fixed for the quorum, or of summoning a general meeting of the company, but for no other purpose."

It is pertinent to note the words, "the continuing directors or director may act", occurring in the above Regulation. The said words clearly take within the sweep of the Regulation 75 to deal with a situation wherein, there remains only one director on the Board, and such sole director is required to appoint an additional director or such number of additional directors for the purpose of increasing the number of directors to that fixed for the quorum by the Companies Act, 1956.

The directors cannot act unless the munimum number is first made up. See: Sly, Spink & Co., [Re, (1911) 2 Ch. 430] ; Owen & Ashworth Chaim, [(1901) 1 Ch. 115]. Also that, the Department of Company Affairs has issued a clarification in this regard. The DCA had advised to increase the board strength either by way of co-option or appointment of additional directors, if so authorised by the articles, and to transact the business and if this way out is not possible to call a general meeting. See: Taxmann's Circulars & Clarifications, 1992 Edition at p. 294.

 In view of such position in law, in the instant case, the appointment of additional director by the sole director, if the company concerned has adopted Regulation 75 of Table A as part of its articles, is valid in law.

Accordingly, Query No. 1 is answered.

Proviso to Section 253 of the Companies Act, 1956 reads as follows:

"Provided that no company shall appoint or re-appoint any individual as director of the company unless he has been allotted a Director Identification Number under section 266B."

Clause (a) of Section 266A of the Companies Act, 1956 provides as follows:

"Every individual, intending to be appointed as director of a company, shall make an application for allotment of Director Identification Number to the Central Government in such form, and manner (including electronic form) along with such fee, as may be prescribed:"

Section 266B of the Companies Act, 1956 reads as follows:

"The Central Government shall, within one month from the receipt of the application under section 266A, allot a Director Identification Number to an applicant, in such manner as may be prescribed."

Second Proviso to Section 266A of the Companies Act, 1956 reads as follows:

"Provided further that every applicant, who has made an application under this section for allotment of Director Identification Number, may be appointed as a director in a company, or, hold office as director in a company till such time such applicant has been allotted Director Identification Number."

In view of the above statutory provisions, and in the context of the above, I am of the opinion that an individual can be appointed as an additional director even if such individual is not allotted a DIN, provided that such individual has duly made an application for allotment of DIN before he is appointed as an additional director. In that event, his appointment as an additional director in the company is legally valid till such time such additional director has been allotted DIN.

It is to be noted that, such additional director, as per Section 266D of the Companies Act, 1956, is required to intimate his DIN to the company concerned within one month of its receipt from the Central Government; whereupon, the company concerned is required, as per Section 266E of the Companies Act, 1956, to furnish the DIN of such additional director to the Registrar or relevant authority, if any, within one week of the receipt of intimation under Section 266D by it.

In any case, once the additional director is duly appointed by the sole director, the two directors, having duly constituted on the Board of the company concerned, may immediately sign its financials, which shall be valid in law.

Accordingly, Query Nos. 2 and 3 are answered.

Pre-Incorporation And Provisional Contracts

A company being a separate legal entity can contract only through its agents.  Sometimes contracts are entered into on behalf of a company even before it is duly incorporated.  Such contracts will not be binding on a company unless it becomes capable of contracting by incorporation.  In Kelner v. Baxter, (1866) LR 2 CP 174, it was held that “two consenting parties are necessary to a contract, whereas the company, before incorporation, is a non-entity”.  The Full Bench of the Supreme Court of India, in Commissioner of Income-tax, Tamil Nadu v. City Mills Distributors (P) Ltd., AIR 1996 SC 2888, has held that "A company becomes a legal entity in the eye of the law only when it is incorporated.  Prior to its incorporation, it simply does not exist.".

When a company is being incorporated, the promoters, purporting to act on behalf of such company, enter into contracts such as for purchase of property, or for securing the services of managers or other experts.  Such contracts are obviously made before the formation of the company.

There are three instances, in case of a public company, where contracts are entered into as follows:

(a)  Contracts entered into on behalf of the company prior to its incorporation, which are called as Pre-incorporation contracts;

(b)  Contracts entered into after the incorporation but before obtaining the certificate of commencement of business, which are called provisional contracts; and

(c) Contracts entered into after obtaining the certificate of commencement of business.

Since a private company can commence its business immediately after obtaining a certificate of incorporation, the question of provisional contracts in case of a private company does not arise.

Pre-incorporation contracts are contracts purported to be made on behalf of a company prior to its incorporation.  Prior to its incorporation, a company doesn’t exist and bears no capacity to contract.  Therefore, nobody can contract as agent on its behalf because an act which cannot be done by the principal himself cannot be done by him through an agent.  Hence, a contract by a promoter purporting to act on behalf of a company prior it its incorporation never binds the company because at the time the contract was concluded the company was not in existence.  Therefore, it has no legal existence.  Even if the parties act on the contract it will not bind the company.  [Northumberland Avenue Hotel Co., (1886) 33 Ch.D 16 (CA)]  Thus, even if the company takes some benefit from a contract which is made before its incorporation, the contract is not binding on the company [In Re. English and Colonial Produce Co. (1906) 2 Ch. 435 (C.A.)].  A company is not entitled to take the benefit of a pre-formation contracts made by its promoters. [Natal Land Co. v. Pauline Colleiry Syndicate Ltd., (1904) A.C. 120; also see: Newborne v. Sensolid Ltd., (1950) 1 All ER 708 (C.A.)].  A company cannot ratify a pre-incorporation contract, but it is open to it to enter into a new contract after its incorporation to give effect to a contract made before its formation [Howard v. Patent Ivory Co. (1888) 38 Ch.D].

Thus, the upshot of the English decisions is that a company can not by ratification obtain the benefit of a contract purportedly made on its behalf before it came into existence.  Because, the creation of a contract by ratification presupposes that the only element lacking when the pretended agent purported to make the contract was the actual authority of his principal, but in the case of a company which was not incorporated at that date, actual authority could in no way have been given to the agent, because the company did not yet exist at the material time.

In India, however, Sections 15 and 19 of the Specific Relief Act, 1963, have considerably alleviated the difficulty as prevailing in England.

The relevant portion of the Section 15 reads as follows:

“Except as otherwise provided by this Chapter, the specific performance of a contract may be obtained by –

…

(h)  when the promoters of a company have, before its incorporation, entered into a contract for the purposes of the company, and such contract is warranted by the terms of the incorporation, the company:

Provided that the company has accepted the contract and has communicated such acceptance to the other party to the contract.”

The relevant portion of the Section 19 reads as follows:

“ Except as otherwise provided by this Chapter, specific performance of a contract may be enforced against,–

…

(e)  when promoters of a company have before its incorporation, entered into a contract is warranted by the terms of the incorporation, the company :

Provided that the company, has accepted the contract and communicated such acceptance to the other party to the contract.”

Thus, so far as the company is concerned, it is neither bound by, nor can have the benefit of,  a pre-incorporation contract.  By virtue of Sections 15 and 19 of the Specific Relief Act, 1963, a company is bound by, and entitled to take the benefit of, the pre-incorporation contracts made by its promoters if such contracts are warranted by the terms of incorporation.  "Warranted by the terms of incorporation" means with in the scope of the objects of the company as stated in the memorandum.  The contract should be for the purposes of the company.

Sub-section (1) of Section 36 of the Companies Act, 1956 reads as follows:

“Subject to the provisions of this Act, the memorandum and articles shall when registered, bind the company and the members thereof to the same extent as if they respectively had been signed by the company and by each member, and contained covenants on its and his part to observe all the provisions of the memorandum and of the articles.”

A moot point which arises in relation to the provisional contracts, however, is that whether a company can ratify such contracts after obtaining the certificate of incorporation and before obtaining the certificate of commencement of business by amending its Memorandum and Articles of Association.

Sub-section (4) of Section 149 of the Companies Act, 1956 reads as follows:

“Any contract made by a company before the date at which it is entitled to commence business shall be provisional only, and shall not be binding on the company until that date, and on that date it shall become binding.”

It is pertinent to note that sub-section (1) of Section 36 of the Companies Act, 1956 begins with the words “Subject to the provisions of this Act”.  Since sub-section (4) of Section 149 of the Companies Act, 1956 stipulates that provisional contracts shall not be binding on the company until the company is entitled to commence the business on the grant of the certificate, a company cannot ratify provisional contracts after obtaining the certificate of incorporation and before obtaining of the certificate of commencement of business.  However, on the issue of the certificate to commence business such contracts automatically become binding i.e. without any ratification.

If, therefore, a public company is wound up before it is entitled to commence business the persons who have rendered services or supplied goods or materials to the company can have no claim against it. [In Re. Electrical Manufacturing Co. (1906) 2 Ch. 390]

A Brief Understanding of Debentures

Sub-section (12) of Section 2 of the Companies Act, 1956 defines “debenture” as follows:

“Debenture includes debenture stock, bonds and any other securities of a company, whether constituting a charge on the assets of the company or not.”

Sub-clause (i) of Clause (h) of Section 2 of the Securities Contracts (Regulation) Act, 1956 defines the term “Securities” as follows:

“Securities” include – (i) shares, scrips, stocks, bonds, debentures, debenture stock or other marketable securities of a like nature in or of any incorporated company or other body corporate;”

Etymologically, the word ‘debenture’ is derived, in 15^th Century, from the Latin “debentur” meaning, “there are owed”.  In Thomas Froude & Eric V.E. White, The Practice Relating to Debentures (1935) a passage about debentures reads as follows:  “The word, ‘debenture’ in its archaic sense was applied to a form given under seal as an acknowledgment for goods supplied to the Royal Household, and as such probably meant a charge on Public Funds. The term was further applied to drawback certificates issued for repayment, on the exportation of goods, of duty which had already been paid upon them, and this term is still so used by H.M. Customs…. The word is now, however, generally used to indicate an acknowledgment of indebtedness given under seal by an incorporated company, containing a charge on assets of the company, and carrying an agreed rate of interest until payment, but the variety of the forms which a debenture may take makes it difficult to find a good general definition in any reported case.” See: Black’s Law Dictionary, Ninth Edition at 460.

‘The term itself [debenture] imports a debt – an acknowledgment of a debt – and speaking of the numerous and various forms of instruments which have been called debentures without anyone being able to say the term is incorrectly used, I find that generally, if not always, the instrument imports an obligation or covenant to pay.  This obligation or covenant is in most cases at the present day accompanied by some charge or security.  So that there are debentures which are secured, and debentures which are not secured … I am not bound to hold that an instrument is a debenture because it is called a debenture by the company issuing it, nor to hold it is not a debenture because it is not so called by the company.  I must look at the substance of the instrument itself … I have seen debentures of various kinds and classes, and it is a mistake to say that to be debentures the instruments must be issued and numbered seriatim.  I have seen even a single debenture issued to one man.’  Edmonds v. Blaina Furnaces Co, Beesley v. Blaina Furnaces Co (1887) 36 Ch D 215 at 219-221, per Chitty J

The term ‘debenture’, “as used in modern commercial parlance is of extremely elastic character”.  Palmer’s Company Law, 24^th Edn., at 673.

No precise definition of ‘debenture’ can be found, but various forms of instruments are called debentures.  A debenture is a document which either creates or acknowledges a debt.  The debt secured may be all moneys due from the company on any account whatsoever, and is then known as an ‘all moneys debenture’.  Even so, it does not cover moneys due on unsecured loan stock issued to a third party and subsequently acquired by the debenture holder.  A document may be a debenture even though, under its term, the debt is to be repaid out of only a part of the profits.  The term ‘debenture is usually associated with a company of some kind, and most debentures are securities given by companies.  Nevertheless debentures are often granted by clubs and occasionally by individuals. [Halsbury’s Laws of England (4^th Edn) (2004 Reissue) Vol. 7(2) para 1553].

In Narendra Kumar Maheshwari v. Union of India, AIR 1989 SC 2138, the Supreme Court of India cited with approval the meaning of the term ‘debenture’ as stated in Palmer’s Company Law, 24th Edition at p. 672 as under:

“A debenture has been defined to mean essentially as an acknowledgement of debt, with a commitment to repay the principal with interest.”

In Sudhir Shantilal Mehta vs. Central Bureau of Investigation [2010]155CompCas339(SC), commenting on the scope of securities encompassed by the definition of the term in Section 2(h) of the Securities Contracts (Regulation) Act, 1956, the Hon’ble Supreme Court of India, at paragraphs 41 and 42, observed as follows:

"41. The definition of `securities' is an inclusive one. It is not exhaustive. It takes within its purview not only the matters specified therein but also all other types of securities as commonly understood. The term `securities', thus, should be given an expansive meaning.

42. In State of Bombay v. The Hospital Mazdoor Sabha AIR 1960 SC 610 this Court while interpreting the definition of "industry" as contained in Section 2(j) of the Industrial Disputes Act, 1947 held as under:

It is obvious that the words used in an inclusive definition denote extension and cannot be treated as restricted in any sense. (Vide: "Stroud's Judicial Dictionary", 5th Edition, Vol. 3 at 1263). Where we are dealing with an inclusive definition it would be inappropriate to put a restrictive interpretation upon terms of wider denotation.  (See also Regional Director, Employees' State Insurance Corporation v. High Land Coffee Works of P.F.X. Saldanha and Sons AIR 1992 SC 129."

Therefore, it follows from the above that ‘debentures’ are creditorship securities representing long-term indebtedness of a company. A debenture is an instrument executed by the company under its common seal acknowledging indebtedness to some person or persons to secure the sum advanced. It is, thus, a security issued by a company against the debt. A public limited company is allowed to raise debt or loan through debentures after getting certificate of commencement of business if permitted by its Memorandum of Association.

Debentures, like shares, are equal parts of loan raised by a company. Debentures are usually secured by the company by a fixed or floating debentures at periodical intervals, generally six months and the company agrees to pay the principal amount at the expiry of the stipulated period according to their terms of issue. Like shares, they are issued to the public at par, at a premium or at a discount. Debenture-holders are creditors of the company. They have no voting rights but their claims rank prior to preference shareholders and equity shareholders. Their exact rights depend upon the nature of debentures they hold.

The definition of debenture reads… “debenture includes debenture stock…”, it would be desirable to understand the difference between debenture and debenture stock.  Debenture stock is borrowed capital consolidated into one mass, which may be divided into and transferable in convenient units of fixed amount.  In other words, ‘debenture stock’ is of the same nature as debentures but instead of each lender having a separate debenture bond, the lender gets a certificate entitling him to a specified portion of one large loan.

Rule 2 (b)(x) of the Companies (Acceptance of Deposits) Rules, 1975 reads as follows:

“"deposit" means any deposit of money with and includes any amount borrowed by, a company, but does not include-

(x)  any amount raised by the issue of bonds or debentures secured by the mortgage of any immovable property of the company or with an option to convert them into shares in the company provided that in the case of such bonds or debentures secured by the mortgage of any immovable property the amount of such bonds or debentures shall not exceed the market value of such immovable property.”

It follows from the reading of the Rule 2(b)(x) above, while any amount raised by the issue of bonds or debentures secured by mortgage of any immovable property of the company or with an option to convert them into shares in the company does not include within the meaning of the term ‘deposit’, unsecured debentures or those debentures which are secured by movable property are deposits and accordingly attract the provisions of Section 58A of the Companies Act, 1956.   Further, it is also to be noted that the Rule 2(b)(x) speaks of issue of debentures with an option to convert them into shares.  Since the Rule does not specify the type of shares, there is an option to convert the debentures into preference shares or equity shares.

Sub-section (12) of Section 2 of the Companies Act, 1956 provides that ‘debenture’, inter alia, includes any other “securities” of a company.  As per the sub-clause (i) of Clause (h) of Section 2 of the Securities Contracts (Regulation) Act, 1956, “Securities” include – (i) shares, scrips, stocks, bonds, debentures, debenture stock or “other marketable securities of a like nature” in or of any incorporated company or other body corporate.  Since the definition is an ‘inclusive’ one, as such the use of the words “other marketable securities of a like nature” in the definition would mean that the preceding terms used the definition under sub-section (12) are in the nature of marketable securities.

The use of the expression ‘marketable securities’ in the definition would give rise to an argument that only listed instruments are marketable.  Hence the moot question arises whether the term securities and hence, the debentures under the scheme of the Companies Act, 1956 can only be listed instruments.  This argument has been set at rest by the Supreme Court of India in  Naresh K. Aggarwala and Co. vs. Canbank Financial Services Limited AIR 2010 SC 2722, while referring to the definition of the term “securities” defined under the SCR Act observed that “perusal of the above quoted definition shows that it does not make any distinction between listed securities and unlisted securities.”

Thus, debentures under the Companies Act, 1956 can be publicly listed or unlisted in stock exchange.