Mandatory Demat Shares For Private Firms To Streamline Ownership Tracking: Experts

With a view to ensure greater transparency in the securities market and to keep a check on the practice of black money, the Ministry of Corporate Affairs has made it mandatory for all big private companies to issue their securities in dematerialised form.

Dematerialisation is the process by which the physical certificates of an investor are converted to an equivalent number of securities in electronic form.

The ministry has said that this process of dematerialisation by private companies must be done before Sept. 30, 2024.

After September 2024, private companies must also make sure that when they offer to issue securities, buy back securities, issue bonus shares, or make a rights offer, the securities owned by promoters, directors, and key managerial personnel are in dematerialised form.

Small companies will not be affected by this move. A small company is generally defined as one that has a paid-up share capital of not more than Rs 4 crore, or the turnover of which does not exceed Rs 40 crore in a year.

Experts said this change will be particularly helpful in addressing issues related to shell companies and the impersonation of shareholders, as this scenario is more prevalent in private companies as compared with public companies.

Although companies and LLPs are structured differently, the main idea behind the amendment seems to be that the government aims to tie them together as much as possible in terms of governance and transparency, said Noorul, partner at Lakshmikumaran and Sridharan.

As of Jan. 31, over 14 lakh companies registered with the MCA—encompassing 95% of all active companies—fall under the category of private companies.

When in dematerialised form, each electronic share is uniquely linked to its rightful owner, making it extremely difficult for unauthorised individuals to manipulate or steal shares, Minhaz Lokhandwala, partner at IndusLaw, told BQ Prime.

The amendment is also set to serve as a pivotal mechanism for the government to streamline the identification of beneficial ownership.

A beneficial owner refers to someone who enjoys the actual ownership benefits. Generally, the beneficial owner and the legal owner of a security are the same person. However, this may not be the case in situations where the beneficial owner wants to stay anonymous, mostly for illegitimate reasons.

The identity of the beneficial owners of financial assets can be concealed by using intricate chains of ownership of legal persons and arrangements across multiple jurisdictions.

Securities in dematerialised form ensure real-time accessibility to critical ownership data. "This transition facilitates the seamless linking of permanent account numbers and Aadhaar details of securities' holders, affording regulators a potent tool for robustly monitoring and ascertaining the genuine ownership of securities," Lokhandwala said.

The disclosure requirements may further assist the Financial Intelligence Unit to tackle money laundering issues, Noorul said.