What is a Related Party?

Introduction

A person or organisation associated with the reporting entity is referred to as a related party. If a person has control, joint control, or significant influence over the reporting entity, or if that person is a prominent member of its management team, then that person or a close relative of that person is related to the reporting entity, then that person is a related party. In addition, a party is considered related to a reporting entity if, among other things, that party is the reporting party’s parent, subsidiary, fellow subsidiary, associate, or joint venture. Moreover, if a party controls, shares control of controls, or is materially influenced by or managed by a related party, then she/ he is a related party.

Section 2(76)

“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 1[or his relative] is a member or director;

(v) a public company in which a director or manager is a director 2[and 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;

3[(viii) any body corporate which is—

(A) a holding, subsidiary or an associate company of such company;

(B) a subsidiary of a holding company to which it is also a subsidiary; or

(C) an investing company or the venturer of the company.

Explanation. —For the purpose of this clause, “the investing company or the venturer of a company” means a body corporate whose investment in the company would result in the company becoming an associate company of the body corporate];

(ix) such other person as may be prescribed”

Analysis of the Section

The term, related party, in relation to a company, means-

(i) a director or a member of his family: A director would be a related party other than his family as a result. The definition under section 2(77) and the expanded meaning ascribed to the term in rule 4 of the Companies (Specification of Definitions) Rules, 2014 are both referenced by the term “related.”

(ii) Any members of management (KMP), including their families: All individuals who are covered under the scope of the word in section 2 would be covered by KMP in section 2(51).

(iii) A company where a management, director, or member of their family is a partner.

(iv) A private company where a manager or director, or a relative of theirs is a member or director. It is crucial to note that the Companies (Removal of Difficulties) Sixth Order, dated 24-7-2014, inserted the phrase “or his relative” into the sub-clause. The sub-clause has been made more stringent. Because of this amendment, even if a director or a manager’s relative serves as a member or director of a private company, they are now considered related parties.

(v) A public company where a manager or director holds more than two percent of the paid-up capital along with his or her relatives. It is important to point out that the Companies (Removal of Difficulties) Fifth Order, 2014, which went into effect on July 9, 2014, replaced the word “or” in the subclause with the word “and.”

After the aforementioned substitution, a public company only qualifies as a related party if one of its directors or managers also serves as a director of the other company and holds more than two percent of the paid-up capital of that company with his or her family. Because both of the above mentioned requirements must be met for the public limited company to be a connected party, the requirements of this sub-clause have been narrowed.

(vi) If a body corporate’s board of directors, managing director, or manager regularly follows the advice, directives, or instructions of the company’s director or management, the corporation is deemed to be a connected party of the corporation.

(vii) Anybody who a director or manager of the company is used to acting on the advice, orders, or instructions of. One who can exert great influence on a company is someone who has the stature and ability to compel a director or manager to follow his orders. Clause (vii) proviso makes it clear that subclauses (vi) and (vii) do not apply if someone gives advice or instructions when acting in a professional capacity.

(viii) Any body corporate that is (A) the holding company of such company; (B) a subsidiary of a holding company to whom it is also a subsidiary; (C) an investing firm or venturer of such company would be a related party under any of the aforementioned situations. Here, the definition of “body corporate”, as stated in section 2(11), shall apply.

It is important to note that, as of February 9, 2018, the aforementioned sub-clause has taken the place of the preceding sub-clause as a result of an amendment made by the Companies (Amendment) Act, 2017.

According to the Explanation under this subclause, a body corporate whose investment in the company would cause the company to become an associate company of the body corporate is what is meant by “the investing company or venture of the company” for the purposes of this clause. The definition of “Associate company” is same as the one given in section 2(6).

(ix) Any other person who may be stipulated under this residual provision shall be a related party.

In light of the above discussion, rule 3 of the Companies (Specification of Definitions Details) Rules, 2014, as amended by the Companies (Specification of Definitions Details) Rules, 2014, which took effect on July 17, 2014, states that, for the purposes of the above said residual clause [clause (ix)], a director who is not an independent director, key managerial personnel of the holding company, or his relative with respect to the company, shall be deemed to be a related party.

Therefore, as can be seen from the examples above, a complex web of ties has been carved out in the law, and as a result, the definition’s tentacles encompass a wide range of relationships.

Definition of ‘Related party’ for listed entities is wider

A listed company is nothing but a public company. It is important to note that the SEBI (LODR) Regulations, 2015 significantly expand the definition of a “Related party” for listed firms. The term shall not only cover organisations that fall under the ambit of section 2(76) or under the applicable accounting standards, according to Regulation 2(zb) of the SEBI (LODR) Regulations. AS (Accounting Standard) 18 came before Ind AS (Indian Accounting Standard) 24, the reporting Accounting Standard for Related Parties. Listed companies must consequently map out ties between their directors and KMPs according on both section 2(76) and Ind AS 24.

Conclusion

Companies frequently look to do business with people or organisations with which they are acquainted or share interests. Related-party transactions may produce conflicts of interest or result in other illegal circumstances, despite the fact that they are lawful in and of themselves. These transactions must be disclosed by public corporations. Thus, it becomes important for the company’s board of directors to keep a record of the related parties to avoid conflict of interest and later costly legal battles.

References

  • Companies Act, 2013.
  • A Ramaiya: Guide to The Companies Act, 19th ed, Vol 1.
  • Avtar Singh, Company Law.

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