Pending legislation in India may create a novel and material development in Corporate Social Responsibility (CSR) that likely would affect all Indian corporations as well as international corporations with subsidiaries or affiliates incorporated in India. If enacted, the legislation would require companies to spend at least 2 percent of their net profits on CSR activities. The proposal is designed to increase funding of CSR programs through social pressure, as the only sanction for failing to spend this amount is that the company must specify why it failed to do so in a report that is presented to the company’s Annual General Meeting.
There are many questions that have not been addressed in either the proposed legislation or any official comments, although the Ministry of Corporate Affairs is developing guidelines and a reporting framework that it intends to publish after the legislation is adopted. Views on when the legislation might pass vary, but most suggest by the end of 2013.
What is the Legislation?
The Companies Bill, 2012 (the Bill), which has been approved by the Lower House of the Indian Parliament, is now before the Upper House where it is expected to be approved without amendments. The Bill would replace the Companies Act, 1956. Some of the provisions in the Bill relate to CSR.
What Companies Are Covered?
The Bill applies to all companies incorporated under Indian law. The Bill requires every company having a net worth of at least rupees 500 crore (approximately $91 million) or turnover of at least rupees 1,000 crore (approximately $182 million) during a financial year to establish a CSR Committee (Committee).
What Are the Duties of the CSR Committee?
The Committee is to consist of at least three members of the company’s Board of Directors; at least one of these members must be an independent director. The Board’s annual report must disclose the composition of the Committee.
The Committee would be responsible for:
- Formulation and recommendation to the Board of a CSR Policy that will indicate the activities to be undertaken by the company (CSR Activities).
- Recommendation of the amount of expenditure to be incurred on the CSR Activities.
- Monitoring of the CSR Policy.
What Are the Board’s Responsibilities?
The Board of Directors will be responsible for:
- Ensuring that the company spends in a financial year at least 2 percent of the average net profits of the company made during the three immediately preceding financial years.
- Approving the recommendations of the Committee.
- Disclosure of the contents of the CSR Policy in the report of the Board and placing it on the website of the company (if applicable).
- Ensuring that the activities included in the CSR Policy are implemented.
- Providing reasons in the Board’s report when the company fails to spend the required amount.
Is the Spending on CSR Activities Mandatory?
Yes, the spending is mandatory but the only sanction for failing to do so is the obligation to report this failure. Specifically, a company must disclose the expenditure on its CSR Activities by way of notes regarding aggregate expenditure and income that are attached to its financial statement submitted to the company's Annual General Meeting. The Board is obligated to explain if the company failed to spend the required amount.
Does this Provision Have Extra-Territorial Effect?
The proposed legislation applies only to companies incorporated under Indian law. On this basis, for a non-Indian headquartered global corporation, the 2 percent would apply to the net profit of its operations as identified in the accounts of its Indian subsidiaries.
The Bill provides that the company is to give "preference to the local area and areas around it where it operates" for spending the relevant amount on CSR Activities. This suggests that a non-Indian headquartered global corporation will need to consider how it can demonstrate that its Indian subsidiaries have complied with the 2 percent rule and reporting requirement in the context of its global CSR spend.
What Activities Fall Within the Scope of CSR?
The Bill does not define CSR. However, the Bill contains a list of activities that may be included by a company in its CSR policy, namely:
- The eradication of extreme hunger and poverty;
- The promotion of education;
- The promotion of gender equality and empowerment of women;
- The reduction of child mortality and improvement of maternal health;
- Combating human immunodeficiency virus, acquired immune deficiency syndrome, malaria and other diseases;
- Ensuring environmental sustainability;
- Employment enhancing vocational skills;
- Social business projects;
- Contributing to the Prime Minister's National Relief Fund or any other fund set up by the Central Government or the State Governments for socio-economic development and relief and funds for the welfare of the Scheduled Castes, the Scheduled Tribes, other backward classes, minorities and women; and
- Such other matters as may be prescribed.
Further input on this question should come from the Ministry of Corporate Affairs, which is developing guidelines and a reporting framework that it intends to publish after the legislation is adopted. In addition, it was announced by India's Finance Minister that investment in startup incubation centers would qualify as a valid CSR Activity.
For more information about the topics raised in this Legal Update, please contact Kiran S. Desai at +32 2 551 5959.