[aaykarbhavan] Business standard news updates 25-6-2013

DIPP moves to end control of companies via back door

Cabinet note extends definition to cover say in management or policy decisions SURAJEET DAS GUPTA & INDIVJAL DHASMANA New Delhi, 24 June The Department of Industrial Policy and Promotion ( DIPP) has moved the much- awaited draft Cabinet note on expanding the definition of " control" for calculating foreign investment, direct and indirect, in an Indian company. The proposal, which has to be cleared by the Cabinet Committee on Economic Affairs ( CCEA), has suggested the definition of " control" be expanded to include the control exercisable through management and policy decisions, management rights, and shareholder agreements of an Indian entity. Currently, a company is considered "controlled" by resident Indian citizens if the power to appoint a majority of the directors on its board is held by Indian companies and citizens. It was felt this definition was not comprehensive enough to cover all possible ways in which " control" was exercised in corporate entities. The note says a foreign company could avoid this test if it did not appoint a majority of the directors but otherwise exercised control in indirect ways, such as lien over voting rights or shareholder agreements (which also confer control). Under the expanded definition, according to the note circulated to various ministries, " control shall include the right to appoint a majority of directors or to control the management or policy decisions, including by virtue of their shareholding or management rights or shareholder agreements or voting agreements". The new definition would take effect prospectively from the date the press note containing it is notified. In the interim, the older definition will be valid. The Reserve Bank of India (RBI) will prepare the detailed notification to give effect to the changes. The new definition is in sync with those in the Companies Bill, 2012, and the Sebi Takeover Code; the Companies Act, 1956, does not clearly define ' control'. Though the note does not use the word " effective control", the new definition means the Jet- Etihad deal would have to be restructured. The Foreign Investment Promotion Board ( FIPB) had not cleared the deal because the government wanted more details of ' effective control' and ownership. Though Etihad had picked only a 24 per cent stake in Jet, its say in the management would be substantial. Sources say the shareholder agreement between Jet and Etihad has making. The two airlines, working on a new shareholders agreement to address the concerns of the government, to FIPB. However, if the on foreign direct investment cap is implemented, the deal could go through even in its present form, as it recommends that 49 per cent FDI be allowed under the automatic route and the civil aviation rule on retaining effective control with Indians be scrapped. Turn to Page 21 > COMPANIES 3 > >Legal quirks: When control overtakes ownership Implication: Jet- Etihad deal would have to be restructured and broughtin sync with the broader definition ofcontrol. Butitmaygo through in its currentform ifthe Arvind Mayaram panel reportis implemented ALL ABOUT CONTROL Currentdefinition: Control rests with one who has the power to appointa majorityofdirectors Newdefinition: Includes control exercisable in the form ofmanagementor policydecisions through managementrights or shareholder agreements ofan Indian entity The wayforward: The newdefinition needs to be approved byCCEAbefore RBI can notifyFema rules to execute the two relevantpress notes of2009

 

Legal quirks: When control overtakes ownership Non- uniform definition of control makes foreign investors wary, raise corporate governance issues SUDIPTO DEY New Delhi, 24 June The Jet- Etihad airline deal has put the spotlight on the C- word. With several definitions of control under different laws, business partners are known to try and get control disproportionate to their level of ownership in a business. The Jet- Etihad deal is an example. Corporate lawyers and investment bankers involved in cross- border merger and acquisition (M& A) deals say lack of uniformity in the definition of control in Indian regulations make foreign investors wary. It also flags issues around corporate governance practices at the board level, say proxy advisory firms. Under Indian law, broadly speaking, 'control' emanates from ownership of a majority of the voting shares in acompany. However, the Foreign Exchange Management Act, which governs FDI- related M& A deals, and the Companies Act, 1956, do not provide a specific definition of the term. The Companies Act treats ownership of majority stake and ability to control the composition of the board of directors as giving rise to control. The new companies Bill takes a broader view, more in line with the takeover regulations of the Securities and Exchange Board of India ( Sebi). According to Arindam Ghosh, partner, Khaitan & Co, a Mumbai- based law firm, certain Sebi regulations define the term in a very narrow sense, to mean at least 51 per cent direct or indirect voting rights. On the other hand, certain regulations adopt the much broader definition provided in the takeover code. Sebi's takeover regulations recognise a situation where a minority business partner could have control by acting in concert with other shareholders or the management. Sebi's Takeover Regulations Advisory Committee said the issue should be seen on a casebycase basis. It said the definition of control should be modified to include ' ability' in addition to the ' right' to appoint a majority of the directors or to control the management or policy decisions. The issue of 'positive' ( i. e. ability to push through or initiate certain actions) and 'negative' ( i. e right to hold back a company from carrying out certain decisions) controls an investor enjoys has been the subject matter of many legal disputes. Reading between the lines "Control has always been a contentious issue and subject to Sebi's discretion and assessment," says Abhishek Pandey, vice- president, Resurgent India Ltd, an M& A advisory firm. The issue of negative control remains a grey area, not addressed fully by the takeover code, he adds. According to Falguni Shah, partner, M& A Tax, KPMG India, the definition under the takeover code goes beyond prima facie control through ownership and composition of the board of directors. What it essentially means is that even if a stakeholder does not have the ability to appoint a majority of the directors, rights such as appointment of a chief executive or positive control on certain functions might put the stakeholder in " control" of the company, says Shah. Many corporate lawyers say the foreign direct investment (FDI) policy has a less tight definition of foreign control, limited to the ability to appoint a majority of directors. " This provides ample room for investors to get around sectoral caps and curbs, such as investing indirectly or via quasi- equity instruments," says a crossborder M& A consultant. For instance, if a company has less than 50% FDI and is controlled by Indians, then further downstream investments by such a company will not be considered foreign investment. No thresholds Unlike in some countries, India prescribes no threshold for ' control' to be triggered. The picture is mixed when one scans international takeover laws. The threshold in Hong Kong is 30 per cent or more, 20 per cent in Australia, 30 per cent in Britain, 33 per cent or more in Malaysia, 30 per cent or more in Singapore and 50 per cent or more in Indonesia. Under Australian corporate laws, control means capacity to determine the outcome of financial and operational policy decisions. Under American takeover laws, control includes power, direct or indirect, by any means to cause decisions of importance to an entity. " The Indian laws are in line with US and Australian laws," says Shah. M& A consultants say uniform legal and regulatory treatment and more clarity on the issue of control is important in an environment where M& A deals are becoming complex and multi- layered, and need to go through multiple regulatory clearances. According to Shriram Subramanian, founder- head of InGovern Research Services, a proxy advisory firm, deals such as JetEtihad, with several levels of control among business partners, do not promote transparent corporate governance practices. "This not in favour of minority shareholders, as it gives one set of shareholders, working in cohort with promoters, adisproportionate level of control over decision making within the company," he says. Hong Kong 30% and more Australia 20% UK 30% Malaysia 33% and more Singapore 30% and more Indonesia 50% and more ( and ability to control managementand policy) US No threshold limit, control includes power, direct or indirect, to make decisions of importance to an entity Sources: MoCA, SEBI, News reports and analyst reports DIFFERENT FOLKS, DIFFERENT STROKES The share- holding that triggers control under international takeover laws The Companies Act, 1956 No definition of control; broadly control is used interchangeably with ownership, and ability to appoint majoritymember on the board of directors Foreign Exchange Management Act ( FEMA and FDI Policy) No definition of control ; Under FDI Policy the concept of ownership is used for control SEBI regulations and Take Over Regulations Advisory committee ( TRAC) SEBI Regulations define the term control in a narrowsense to mean atleast 51% direct or indirect voting rights; The take over code adopts a broader definition of control. The TRAC has recommended that the definition of control should include " Ability" in addition to " Right" to appoint majority of the directors. The new Companies Bill Adopts a broader definition of control in line with SEBI. NON- UNIFORMITY OF DEFINITIONS OF CONTROL UNDER INDIAN LAWS AND REGULATIONS Unlike some countries, India prescribes no threshold for 'control' to be triggered. The picture is mixed when one scans international takeover laws   DIPP note... The panel has recommended that up to 49 per cent FDI be allowed to come through the automatic route, after which it could be vetted by FIPB. The panel has also suggested that up to 74 per cent FDI be allowed in the sector. Ministries have been asked to respond by June 29, after which the note will be forwarded to CCEA. After clearance, RBI will notify the long- pending Foreign Exchange Management Act (Fema) rules for Press Note two and three of 2009. The norms under Fema would enable the implementation of the FDI policy of 2009, circulated through that year's Press Notes 2 and 3. These notes, incorporated later in the consolidated policy, became controversial as these said the entire downstream investment through an investing Indian company would be considered for calculation of indirect foreign investment if an Indian company is " owned and controlled" by non- residents, and sectoral FDI caps would apply on those. However, there were some exceptions, especially in relation with 100 per cent subsidiaries of investing companies. The press notes suggested that FDI, investment by foreign institutional investors, qualified foreign investors, non- resident Indians, those through American depository receipts or global depository receipts, foreign currency convertible bonds, compulsorily and mandatorily convertible preference shares and fully, compulsorily and mandatorily convertible debentures be counted to calculate indirect foreign investment in a firm. In this regard, a firm owned by non- residents would mean an Indian firm where over 50 per cent of capital is beneficially owned by foreigners. >FROM PAGE 1

 

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CS A  RENGARAJAN,, B.Com ,FCS, LLB, PGDBM
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