Sweat Equity in Nepal

I. Introduction

The Government of Nepal has formally recognized the concept of sweat equity as a landmark reform aimed at modernizing Nepal’s corporate legal framework. Through recent amendments to the Companies Act, 2063 (2006) (“Companies Act”), companies in Nepal are now permitted to issue shares not only for monetary investment but also in exchange for non-cash contributions such as intellectual property, technical expertise, services, goodwill, and know-how.

II. Concept of Sweat Equity

Sweat equity refers to shares issued by a company to its employees, promoters or directors in consideration for their non-monetary contributions, such as intellectual property rights, technical know-how, value additions, services rendered, or other tangible/intangible assets provided to the company. Unlike traditional equity that is acquired through monetary investment, sweat equity acknowledges the value of time, effort, expertise, and intellectual contributions made to a company’s growth and development.

III. Prior Legal Position: Restrictions on Non-Cash Share Issuance

Before the amendment, the Companies Act permitted the issuance of shares for non-cash consideration only at the time of incorporation, and such arrangements had to be reflected in the company’s Memorandum of Association (प्रबन्धपत्र).

Under Section 18(2) (a) of the Companies Act, promoters or other individuals could receive shares in exchange for property or assets contributed during incorporation with formal valuation by a certified engineer or auditor. However, the law did not allow companies to issue shares for services, goodwill, or intangible contributions after registration.

IV. The Amendment: Legal Recognition of Sweat Equity

The amendment to Section 18 of the Companies Act introduced several new provisions that establish a clear and flexible regime for issuing shares in exchange for non-cash contributions. The key additions are as follows:

1. Post-Incorporation Non-Cash Share Issuance (Section 18(3A))

Companies can issue or allot shares to promoters or other persons in exchange for non-cash consideration even after incorporation.

2. Special Resolution Requirement (Section 18(3B))

Such non-cash issuances or allotments must be approved by a special resolution at the company’s general meeting. The resolution can also authorize the issuance or sale of shares at a discount, granting companies flexibility to structure attractive offers for contributors.

3. Recognized Forms of Sweat Equity (Section 18(3C))

Shares can be issued in consideration for the various non-cash contributions including:

1. Intellectual property,
2. Value addition,
3. Services rendered,
4. Goodwill,
5. Technical knowledge,
6. Transfer of proprietary or technical know-how.

Valuation of such contributions must be conducted by a licensed engineer or auditor, and must provide a justified basis for the assigned value.

4. Share Compensation for Employees (Section 18(3D))

Where a written agreement exists between the company and an employee, the company can offer shares in lieu of salary, allowances, or other benefits, thereby facilitating equity-based employee compensation.

5. Limit on Non-Cash Issued Capital (Section 18(3E))

To ensure responsible dilution, the law caps sweat equity as follows:

• For regular companies (other than those registered as startups), non-cash issued shares must not exceed 20% of the paid-up capital, and
• For companies registered as startups, the threshold is raised to 40%.

6. Valuation Protocol (Section 18(4))

All non-cash contributions must be properly valued under prevailing laws. If no specific method is prescribed, the valuation professional must clearly state the basis of valuation, ensuring transparency and auditability.

7. Override Clause (Section 18(5))

If the company’s memorandum contradicts any of these new provisions, such conflicting provisions will be deemed void to the extent of inconsistency.

V. Conclusion:

The recognition of sweat equity marks a pivotal shift in Nepal’s corporate legal environment. It empowers startups to attract talent and strategic input without immediate financial outlay, allows companies to retain high-performing employees through equity-based incentives, and provides founders and investors with a structured mechanism for leveraging intangible contributions.