NATIONAL LAW UNIVERSITY, JODHPUR

COMPANY LAW-II
(Assignment towards fulfilment of continuous assessment-2)

PRIVATE SUBSIDARY OF A FOREIGN COMPANY

19TH FEBRUARY 2016

SUBMITTED TO:
Ms. KRATI RAJORIA

SUBMITTED BY:
KRATI CHOUHAN
SECTION-A 1061
BBA.LLB(hons.)
VI SEMESTER

INTRODUCTION
Since the enactment of the Companies Act, 2013 (the 2013 Act), several issues relating to its
interpretation have been coming up for consideration. One such issue relates to the status of a
private company in India that is the subsidiary of a foreign company (being a public
company). The specific question relates to whether the Indian private company can continue
with its status or whether that would become a public company by virtue of becoming a
subsidiary of another public company.
Under the Companies Act, 1956, by virtue of section 3 any private subsidiary of a public
company becomes a public company. A subsidiary is defined in section 4 of that Act. For the
purposes of that section, the expression company includes a body corporate thereby
encompassing a subsidiary of a foreign company as well. However, the considerably wide scope
of this provision was mitigated to a large extent by specific provisions (sub-sections (5), (6) and
(7) of that section) that dealt with cross-border parent-subsidiary relationships. More specifically,
by virtue of section 4(7), an Indian private company could continue to maintain its private status
if it was held entirely by two or more bodies corporate. Using the benefit of this dispensation,
many foreign companies established private subsidiaries in India by ensuring that the shares in
Indian company were held by two or more foreign companies (and not individuals) so as to
ensure that the Indian subsidiary maintained its private status. This market practice was well
established and did not pose much practical difficulty in structuring group holdings.
Moving to the 2013 Act, there seems to be some amount of ambiguity on whether the Indian
private subsidiary can continue its status even if its shares are held by one or more foreign
companies with the parent being a public company. While the substantive provisions are
somewhat straightforward, the ambiguity arises because there are no specific provisions in the
2013 Act similar to sub-sections (5), (6) and (7) of section 4 of the 1956 Act that elucidate the
legal treatment in case of cross-border parent-subsidiary relationships. The legislative intent is
unclear as well.

POSITION OF PRIVATE SUBSIDIARY OF FOREIGN COMPANY UNDER 1956 ACT

Under the Companies Act, 1956, by virtue of section 3 any private subsidiary of a public
company becomes a public company. A subsidiary is defined in section 4 of that Act. For the
purposes of that section, the expression company includes a body corporate thereby
encompassing a subsidiary of a foreign company as well. However, the considerably wide scope
of this provision was mitigated to a large extent by specific provisions (sub-sections (5), (6) and
(7) of that section) that dealt with cross-border parent-subsidiary relationships
Section 4(7) - A private company, being a subsidiary of a body corporate incorporated outside
India, which, if incorporated in India, would be a public company within the meaning of this act,
shall be deemed for the purposes of this act to be a subsidiary of a public company if the entire
share capital in that private company is not held by that body corporate whether alone or together
with one or more other bodies corporate incorporated outside India.

AMBIGUITY CREATED IN 2013 ACT

Moving to the 2013 Act, there seems to be some amount of ambiguity on whether the Indian
private subsidiary can continue its status even if its shares are held by one or more foreign
companies with the parent being a public company. While the substantive provisions are
somewhat straightforward, the ambiguity arises because there are no specific provisions in the
2013 Act similar to sub-sections (5), (6) and (7) of section 4 of the 1956 Act that elucidate the
legal treatment in case of cross-border parent-subsidiary relationships. The legislative intent is
unclear as well.

AMBIGUITY CREATED DUE TO DROPPING OF S. 4 (7) OF 1956 ACT IN 2013

ACT
Under the new Act, the existing provisions of Section 4 (7) have been dropped. That might have
been unintentional but it has lead to much confusion over the position of Indian subsidiarys
treatment under the Act. Two sections of the new Act, namely section 2(71) and section 2 (87)
throw light upon this matter.

The proviso to section 2(71) of the 2013 Act provides that a subsidiary of a public company will
be deemed to be a public company even if its articles of association provide otherwise.
Since a foreign company is not a company under the Act (it is a body corporate). This proviso is
clearly applicable to foreign companies. Now this leads to a search for the definition of a
subsidiary which is given in S. 2(87).
In order to determine what is a subsidiary it is necessary to refer to section 2(87) where the
reference to a company includes a body corporate, which reference is however limited to that
clause (i.e. definition of a subsidiary).
Taking these two sections together, since the reference to a body corporate is limited to the
definition of a subsidiary and not extended to the definition of a public company, by taking a
technical interpretation it may be possible to conclude that a private subsidiary of a foreign
company may continue with its status without being deemed a public company.
In the case of Bengal Immunity Co1 it was held that if an explanation is provided for a particular
clause of particular section then it will apply to only that clause and no other clause of the same
section. So if this view is accepted then the meaning of company including body corporate under
S. 2(87) cannot be imported to S. 2 (71). Hence the subsidiary of a foreign company will be
treated as private company. However there is rule of harmonious construction which provides
that all the clauses of a section should be harmoniously construed. A statute must be read as a
whole. Such a construction should be adopted which avoids and repugnancy or inconsistency
either within a section or between a section and other parts of the Statute 2. Also the legislative
intention should be looked into while construing a Statute. 3 So if this position is adopted then
subsidiary of a foreign company will be treated as public company.
1 Bengal Immunity Co Ltd v State of Bihar, AIR 1955 SC 661
2 G. P Singh, Principles of Statutory Interpretation, 13 th edn, 2012, Pg 144,(Gurgaon,
LexisNexis, 2012)
3 RMD Chamarbaugwala vUnion of India, AIR 1957 SC 628; Stock v Frank Jones (Tipton) Ltd.,
(1978) 1 All ER 948

AMBIGUITY CREATED AS TO CHOICE GIVEN SUBSIDIARY COMPANY TO

REMAIN A PRIVATE COMPANY
Upon reading the proviso to Section 2(71) one more thing comes out to the fore. Even if the
subsidiary company, by its articles, choose to remain a private company, it will be treated as a
deemed public company for all purposes of the Act. Thus a subsidiary may remain private by its
own choice as far as its internal matters are concerned (such as not inviting public to subscribe in
shares etc.), but in the eyes of law, it will be public.
Due to all the ambiguities created it becomes essential to look into the intention of legislature
while framing the Act.

LEGISLATIVE INTENT WHILE MAKING THE ACT

In terms of legislative history, the Concept Paper notified by the erstwhile Ministry of Company
Affairs in 20044, as well as the J. J. Irani Committee Report5 make a reference to this question.
The Concept Paper had a draft bill for consideration, which defined 'public company' in line with
the definition under the 1956 Act. Though the Concept Paper had partially incorporated the
language of section 4(7) of 1956 Act, the draft Companies Bills of 2008, 2009, 2011 and 2012
have all excluded any reference to the same.
A literal and technical interpretation would lead to the conclusion as above. While that is a
compelling one, the legislative intent on this behalf is not altogether clear. An opposing argument
may be adopted that in the absence of provisions similar to sub-sections (5), (6) and (7) of
section 4 of the 1956 Act, the intention appears to be through an overall reading of the provisions

4Ministry of Company Affairs, Concept Paper on Company Law, Press Note No: 1/2004, F. No.1/1/2004-CL-VNo:
1/3/2003-RC, Government of India, New Delhi, date: 4th August, 2004

5 Dr. Jamshed J. Irani, Report on Company Law, Expert Committee on company Law,New
Delhi, 31st May, 2005

that all private subsidiaries of public companies (whether Indian or foreign) will be deemed to be
public companies6.

Given this ambiguity, there are two possible views:

Option 1: A literal and technical interpretation of the 2013 Act would suggest that a subsidiary of
a foreign company will not fall within the purview of the definition of a public company in
section 2(87) and hence it will continue its status as a private company.
Option 2: A broader interpretation of the 2013 Act would suggest that a private subsidiary of a
public company (whether Indian or foreign) would be deemed to be a public company.
We would go in favour of the second option because Section 2(71) and 2(87) of the 2013 Act
have to be read together. When the explanation to Section 2(87) provides that for the purpose of
that clause (i.e., the definition) the expression company includes body corporate, then that
explanation should be read and interpreted in all such clauses where the term subsidiary is used
including Section 2(71).
So when proviso to Section 2(71) says that a company which is a "subsidiary of a company" in
such case the term company used later in conjugation with subsidiary should also include body
corporate and not simply Indian companies.
IMPACT ON FDI (PRESENT SCENARIO)
This will drastically affect a large section of foreign companies because they will now have no
choice but to observe the requirements and restrictions of a public company and forgo the
benefits of being a private company, even if the company chooses to remain private by its
articles. In fact, many foreign companies may choose not to open subsidiaries in India. If
implemented in this fashion, then FDI inflows are sure to fall. Last year saw the central banker
and the Ministry of Finance taking crucial steps to relax the norms for entry of foreign investors
in India to drive organic growth in our economy because FDI does not have the volatility that
6Recommendations by Confederation of Indian Industry, The Companies Act 2013 and the Compnaies Rule 2014.
Available at http://cii.in/WebCMS/Upload/CompaniesActRepresentation.pdf

stocks and bonds have. However the Ministry of Corporate Affairs (MCA) seems to be at cross
purposes with the bigger aim of the government towards opening the economy to foreign
entities.
If foreign companies cannot incorporate themselves as private companies, then much of their
enthusiasm will be lost and most of them will be deterred from coming to India. In a country that
is in scrambling competition for a share of global fund flows, is facing an enormous current
account deficit and is trying to improve its tarnished image to foreign investors, the provisions of
the Companies Act 2013 are only worse than discouraging.

CONCLUSION
In the light of all the discussion it can be concluded that there is urgent need for legal scrutiny of
these provisions of companies Act 2013 as inactivity will lead to chaos and confusion, hence it is
essential to bring about an Amendment in the 2013 Act and include a provision equivalent to S.
4(7) of 1956 Act. However if the legislature have an intention contrary to that of S. 4(7) of 1956
Act then it should clarified through persuasive authorities. There is dire need for judicial
interpretation of this provision so that it can serve as precedent for future reference. As for now
the S. 2(71) and S. 2(87) is open for wide interpretation.
The main reason for which the clarification is sought is that if private subsidiary of a foreign
company is treated as private company then it will be liable for certain privileges available only
to private companies. As the characteristics feature of both public and private companies are
completely different, it becomes essential to look into this aspect.