SEBI Clarifies on Schemes of Arrangement
SEBI’s circular of February 4, 2013 imposing stringent requirements for
oversight of schemes of arrangement, there were certain issues that required
clarification (discussed here
Now, by way of
dated May 21, 2013, SEBI has clarified some of the outstanding issues and
also made some modifications to the previous circular. In this post, we discuss
some of the key items:
Applicability of the Circular
SEBI has now
clarified that the February 4 circular is applicable to all types of schemes of
arrangement including amalgamation, reconstruction and reduction of capital. It
is not limited to reverse listings or other schemes that may require an
exemption under Rule 19(7) of the Securities Contracts (Regulation) Rules,
applicability of the circular would mean that all schemes of arrangement will
now be closely scrutinized and will require review by the stock exchanges and
Requirements for Voting
The February 4
circular provided that proposal for a scheme will pass muster only “if the votes
cast by public shareholders in favor of the proposal amount to at least two
times the number of votes cast by public shareholders against it.” In other
words, in addition to the usual majority the scheme must also receive the
approval of 2/3rds of the public shareholders. This requirement has now been done away with.
A more stringent majority requirement as well as voting through postal ballot and e-voting and greater
disclosure measures are now limited to schemes of arrangement that are
undertaken where promoters are a party or are affected by it. Examples of this
are where promoters are allotted further shares under the scheme, or where a
group company is a party to the transaction. In such cases, there must be a majority of public shareholders voting in favour of the scheme, in addition to the normal majority required by the Companies Act. The stringent majority
requirements therefore apply only to related party transactions undertaken
through schemes of arrangement and not to all transactions (which are carried
out at arm’s length).
that the earlier circular treated all transactions with the same level of
circumspection and imposed high burden on companies that would have made
obtaining the requisite majority cumbersome, but now that is limited only to
related party transactions that require greater protection for minority
revised circular, while valuation reports are required to be submitted in all
types of schemes, they are required to be obtained from an independent
chartered accountant only if there is a change in the shareholding of the
listed company / resultant company. What amounts to change in shareholding
pattern is defined with specificity along with illustrations.
The revised circular
achieves two results. On the one hand, it clarifies the scope of applicability
of the previous circular. On the other hand, it lessens the stringency of the
previous circular by making some of the onerous requirements applicable to specific
types of schemes where minority interests are likely to vulnerable rather than
to all types of schemes.
Public Shareholding Norms: Consequences of Non-Compliance
June 2013 deadline for compliance by listed companies with the minimum public
shareholding of 25% is looming closer. The deadline for compliance by public
sector (government) listed companies to comply with the 10% minimum public
shareholding will follow in August.
the last few months, several companies have already reduced their promoter shareholding
to meet with these norms. This has been accomplished through various facilities
provided by the Government and SEBI to achieve the minimum public shareholding
norms. SEBI has also provided specific exemptions and dispensations in certain
cases. The latest episode of The Firm has a comprehensive discussion
on the manner in which companies have gone about reducing their promoter
holdings and the various issues that have arisen in the process.
a rush to achieve these norms, there will certainly be a significant number of
companies that are unable to comply with them by the June deadline. SEBI has
been steadfast in its stance that it will not extend the time period for compliance.
these circumstances, a lawyer friend recently raised the issue of the possible
consequences of non-compliance by listed companies. In order to consider this,
we must note that the minimum public shareholding norms are embodied in Rule
19A of the Securities Contracts (Regulation) Rules, 1957 (SCRR) that was
introduced by way of amendment in 2010. In addition, the listing agreement in
clause 40A requires companies to comply with Rules 19(2) and 19A of the SCRR.
first consequence of non-compliance would be a delisting of securities on
account a breach of the listing agreement. As we have repeatedly argued before,
this would be a paradoxical tool to ensure compliance with listing norms. In
case of a delisting, it is the public shareholders who would suffer due to a
loss of liquidity and exit opportunity in the markets. Public shareholders
would be penalized by failure of the company and promoters to comply with norms
that are intended to benefit them. While this regulatory response exists on
paper, it must be exercised cautiously after considering the extensive impact
it may have.
second consequence would be penalties levied on the non-compliant companies.
Section 23E of the Securities Contracts (Regulation) Act, 1956 (SCRA) provides
that in case of failure to comply with the listing conditions, SEBI could
impose a penalty not exceeding Rs. 25 crores (rupees 250 million). SEBI could
potentially invoke this power in case the public shareholding norms are not met
by the deadline.
these measures exist on the statute books, it is a different matter as to how
they might be exercised by SEBI in practice. The past track record indicates
certain difficulties in the implementation of corporate and securities laws.
For example, when stringent measures of corporate governance were to be
introduced by amendments to clause 49 of the listing agreement in 2004, the
implementation was delayed several times and they came into effect only on
January 1, 2006. These include a tighter definition of board independence and
the like. Even thereafter, when SEBI tried to enforce the board independence
requirements against several listed companies, primarily in the public
(government) sector, it had to drop them subsequently.
make a comparison, during October and November 2008, SEBI passed a series of
orders involving the lack of appointment of the requisite number of independent
directors to several government companies, viz. NTPC Limited (Oct. 8), GAIL
(India) Limited (Oct. 27), Indian Oil Corporation Limited (Oct. 31) and Oil and
Natural Gas Corporation Limited (Nov. 3). The principal ground for dropping the
action was that in the case of the government companies involved the articles
of association provide for the appointment of directors by the President of
India (as the controlling shareholder), acting through the relevant
administrative Ministry. SEBI found that despite continuous follow up by the
government companies, the appointments did not take effect due to the need to
follow the requisite process and hence the failure by those companies to comply
with Clause 49 was not deliberate or intentional.
Returning to the public
shareholding norms, a lot would depend upon the stance adopted by SEBI for
enforcing them after the deadline has expired. While some of it may be known
post-June 2013 when the deadline for private sector companies expires, but the
real enforcement test may lie if there are violators among the public sector
companies, which will be clear subsequently.
Madras High Court on SEBI Circular for Scheme of Arrangement
A few months
ago, I had discussed SEBI’s circular
of February 4, 2013, which imposes more stringent oversight by SEBI and the
stock exchanges on different types of schemes of arrangement.
thereafter, our guest contributor Yogesh Chande has pointed
to issues relating to the scope of the SEBI circular, and specifically
whether the circular applies only to such schemes that require exemption from
Rule 19(7) of the Securities Contracts (Regulation) Rules, 1957 (SCRR), which
principally relates to reverse listings, or whether it applies more widely to
all types of arrangements. This ambiguity is caused because although the SEBI
circular applies generally to all types of schemes, including schemes among
listed companies and even capital reductions under section 100 of the Companies
Act, the genesis for the circular can be related to a 2009 circular which is
confined to reverse listings and was also repealed by the February 2013
unreported judgment dated April 1, 2013, the Madras High Court holds that
SEBI’s circular is applicable only where an exemption is being sought from Rule
19 of the SCRR and not for other schemes. That case involved a merger of two
companies both of which were listed on the stock exchanges. The companies made
an application to the court for convening meetings under section 391 of the
Companies Act. Since this was not a reverse listing, the court clarified in
response that the SEBI circular is not applicable. The relevant portion
containing the discussion on the point of law on the issue is extracted below:
learned counsel for the applicant contended that the conditions laid down by
the Securities and Exchange Board of India vide circular CIR/CFD/DIL/5/2013
dated 04.02.2013 are not applicable to the case of the applicant, as the
applicant is not seeking exemption under Rule 19(7) of the Securities Contracts
(Regulation) Rules, 1957, as the transferor company listed its shares in the
recognised Stock Exchange after complying with the conditions laid down under
the Securities Contracts (Regulation) Rules, 1957.
consideration, I find force in this contention. Rule 19 of the Securities
Contracts (Regulation) Rules, 1957 stipulates that a public company as defined
under the Companies Act, 1956, desirous of getting securities listed with the
recognised Stock Exchange are required to apply for the purpose to the Stock
Exchange along with its application, document contained under the Rule.
submitted by the learned counsel for the applicant, this already stood complied
with, when the stock was listed with the recognised Stock Exchange.
learned counsel for the applicant is also right that Rule 19(7) gives right to
the Securities Exchange Board to waive or relax strict enforcement of any of
the rules. In the present case, it is not a case where the applicant is to get
the stock listed. In the case in hand, what is being done is that the stock
which is already listed is being regulated without seeking any exemption,
therefore, for the purpose of amalgamation of the companies, the provisions of
Rule 19(7) would not be applicable, as no exemption under the rules is being
sought therefore, the circular issued in exercise of power under Rule 19(7)
will not be applicable to the applicant.
The court has
adopted a narrow view of the circular. While it is understandable that the
circular refers to Rule 19(7), that does not explain the wider objective of
SEBI that is evident in the circular and also in the fact that it covers other
schemes of the arrangement such as capital reduction that does not involve any
listing of securities without following the usual disclosure process.
As Yogesh mentions in
his post, there is some ambiguity regarding the scope of the circular, and this
decision also underscores the type of issues that could arise in practice.
Given this ambiguity, it is recommended that SEBI expressly state its intention
regarding the scope of the circular. By issuing a clarification or a set of
FAQs, possible uncertainties regarding the schemes of arrangement, which are a
popular form of a transaction in India, can be avoided.
Update - May 22, 2013: SEBI has since clarified that the circular is applicable to all types of schemes of arrangement and not only those that require an exemption under Rule 19(7).
Enforceability of Put and Call Options: Reality Soon?
put and call options are quite common in investment agreements, its
enforceability under Indian law has been in serious doubt due to age-old
provisions in securities laws which have not been updated to meet with the
requirement of the times. I have discussed the issue in detail in this paper and
also called “for a reconsideration of the legal regime so that physically
settled options that are customary in investment agreements may be treated as
valid and legally enforceable”.
issue has been on the anvil for a long time, now there seems to be some
tangible movement towards resolution. News
reports indicate that the Law Ministry has, based on a proposal from the
Finance Ministry, decided to permit options in investment agreements.
It is not
clear how the revisions will be effected. It could be done simply by way of a
notification by SEBI amending/repealing its earlier notification of March 1,
2000, which put paid to these options. The other alternative would be to amend
the Securities Contracts (Regulation) Act, 1956 (SCRA), which is perhaps both
unnecessary and more cumbersome given that the intervention of Parliament will
It is too
early to be euphoric because the devil is always in the detail!
Papers published on BALCO
Ironically, the judgment of the Constitution Bench in BALCO may
turn out to be as significant for domestic arbitration as it is for finally
shattering the misconception that the omission of the word “only” in section
2(2) of the Arbitration and Conciliation Act 1996 was designed to expand the
jurisdiction of the Indian courts in relation to foreign arbitration. Some of
these questions have been explored in three articles recently published in the
Supreme Court Cases journal, of which the following is a brief summary.
Shantanu and I wrote a paper titled “Three Errors
in BALCO” ((2012) 9 SCC J-26) in which we argued that while the
Court was entirely right in overruling Bhatia International on
the applicability of Part I of the Act to foreign arbitrations, it nevertheless
made-as the title of the article suggests-three significant errors on other
points. To briefly summarise:
(1) The conclusion in paragraph 96
that section 2(1)(e) of the Act refers to two courts, the
court of the seat and the court of the cause of action is, with respect,
clearly incorrect. Section 2(1)(e) confers jurisdiction on the court which
would have had jurisdiction to entertain a suit forming the subject matter of
the arbitration. As the Delhi High Court rightly pointed out in GE Countrywide, this
means that a court in which an application under the 1996 Act is instituted
must imagine that the arbitration clause does not exist and ascertain whether
it would have had jurisdiction to entertain a suit relating to that dispute.
So, if two parties from Mumbai and Delhi respectively choose Calcutta as the seat
of arbitration, the Calcutta High Court would not have jurisdiction to
entertain an application under the 1996 Act unless it was shown that some part
of the cause of action arose in Calcutta. Unfortunately, the Supreme Court
assumed in paragraph 96 of its judgment that section 2(1)(e) is a reference to two courts
(the court of the seat and the court of the cause of action)
and has therefore overruled by implication, a consistent view that has
prevailed for over seventy years.
(2) The Court, with respect, misunderstood the
decision of the House of Lords in the Siskina and
consequently proceeded on the erroneous premise that an action instituted solely to
obtain interim relief in aid of foreign arbitration is alien to the common law.
Had the Court appreciated that the common law does recognise such an action, it
would then have had the opportunity to consider whether such an action is
recognised by Indian law. We suggested that such an inquiry would likely have
led the Court to conclude that such an action may be brought under section 151
CPC, addressing one of the major concerns raised by practitioners about the
consequences of BALCO.
(3) There was no case whatsoever for
overruling Bhatia International prospectively, considering
that the dispute related to a point of statutory construction, and in
particular a jurisdictional statute. As the House of Lords emphasised in Re Spectrum,
the power should be exercised only in wholly exceptional cases, and with
particular caution if the point the court is asked to overrule prospectively is
one of statutory construction rather than the common law (Lord Scott of Foscote
in his dissenting speech thought the power should never be
exercised in relation to statutory construction).
A response to this article titled "Not Three
but Half an Error in BALCO" ((2013) 1 SCC J-81) was
published by Mr SK Dholakia, Senior Advocate and Ms Aarthi Rajan, Advocate in
which they sought to support the judgment of the Court. In summary, their
contention on section 2(1)(e) was that the “overarching seat theory” was
the basis of which BALCO was decided, and led to the conclusion that the
territorial court for domestic arbitration is solely the court
of the seat, regardless of where the cause of action arises. According to them,
in the Mumbai/Calcutta example above, the Calcutta High Court would have exclusive jurisdiction
by virtue of being the supervisory court, that is, the court
exercising territorial jurisdiction over the chosen seat of arbitration. They
make the powerful argument that if two foreign parties choose Chennai as the
seat of arbitration, and the cause of action arises entirely outside India,
neither the Madras High Court nor any other Indian court would have
jurisdiction under section 2(1)(e) even though Part I of the
Act applies (by virtue of section 2(2)), which they contend is an anomaly that
impedes the growth of arbitration where India is a neutral forum. In relation
to our argument on the maintainability of an action for interim relief in aid
of foreign arbitrations, they relied on the well-known judgments of the English
courts in Castanho and Siskina, and the recent
judgment of the High Court in Royal Westminster,
to suggest that there can be no “suit” purely for interim relief. They
also suggest that section 151 CPC cannot be invoked for this purpose because
Order 39 Rule 1 is exhaustive. In relation to prospective overruling, they
agree that using arbitration agreements (as opposed to pending
petitions or applications, for instance) entered into after 06.09.2012 as the
yardstick was erroneous, but support the use of prospective overruling in
principle, relying on Patel Engineering.
have now published a response to this article titled “Three Errors Revisited”
((2013) 4 SCC J-1), explaining our original argument and responding to
some of the points raised by Mr Dholakia and Ms Rajan. We point out that the
jurisdiction of the Indian courts to supervise arbitration is statutory, not
inherent, supporting the view taken by the Delhi High Court in GE
Countrywide, and therefore that it is not permissible for an Court to
assume jurisdiction not provided by section 2(1)(e) on the basis of the "overarching
seat theory". This cause-of-action based system of organising
jurisdiction has, for better or worse, been part of Indian law for over seventy
years. Whether that should be discarded in favour of a consent-based system of
jurisdiction is, we suggest, a decision for Parliament, not the Supreme Court.
On the maintainability of an action for interim relief in aid of foreign
arbitrations, we demonstrate that the transition from the 1882 CPC to the 1908
CPC contains indications that what is now Order 39 Rule 1 is not exhaustive
(indeed, the Calcutta High Court so held in the early 1900s), and that section
151 CPC is a possible basis on which such interim relief may be granted. We
also revisit the discussion of the common law and establish that it contains no
bar to such an action. Finally, we reiterate that it was not appropriate to
overrule Bhatia International prospectively, because the
appellants had not established that this was, to quote Lord Nicholls in Re Spectrum, “the
wholly exceptional case” in which parties had relied on Bhatia
International in organising their affairs. More generally, we suggest
that prospective overruling should not be used on a case-by-case analysis of
the “justice” of the competing claims but should proceed on the basis of
clearly established legal principle, which should distinguish between
overruling a point of common law and overruling a point of statutory
Call for Papers – Journal on Governance
announcement is posted on behalf of the Center for Governance, National Law
Center for Governance, National Law
University, Jodhpur, proposes the VII issue of “Journal on Governance,” its
annual publication. Journal
on Governance offers a forum for critical research on interplay of contemporary
corporate governance issues with other disciplines, including, inter alia, law, management and societal
studies. Aside to highlighting the
problems and the challenges, the Journal attempts to explore and offer workable
solutions, which may be helpful in regulatory and policy decisions.
of the Center’s such endeavours include comments on the consultative paper on
the SEBI’s suggested Clause 49 reforms, followed by a panel discussion
involving eminent stalwarts like Padmabhushan Shri D.R. Mehta (Founder
Chairman, SEBI), and Ms. Usha Narayanan (Former Executive Director, SEBI, and
currently partner, Amarchand & Mangaldas & Suresh A Shroff & Co.).
Previous issues of the Journal boast of
scholarly discourses from eminent legal practitioners, academicians, research
scholars and students. The articles for
publication are selected through a meticulous and intense process of review,
edit and refinement. The Journal has received acclaim and appreciation from all
contours of the industry and academia.
For the forthcoming issue, the Center invites Articles on the following
sub-themes under the broad theme of "Governance- the contemporary
1. Governance in Microfinance Industry
SEBI’s Jurisdiction on Corporate
Governance- a critical assessment
3. Governance in PPP Model of
4. Corruption and Corporate Citizenship
5. Conflict of Governance and Related
note that the submissions must conform to the following requirements:
- The acceptable
length of Articles is 5000 words, and of notes and comments is 3000 words,
- All submissions
must include an abstract of not more than 300 words, explaining the main idea,
objective of the article and the conclusions drawn from it.
- The Article
should be on A4 sized paper, in Times New Roman Font Type, font size 12, 1.5
line Spacing and 1 inch margins on each side. Authors should follow Harvard
Blue Book Footnoting style. Footnotes should be in font size 10 and with single
- Authors should
provide their contact details, designation and institutional affiliation in the
covering letter for the submission.
- The submission
must be the original work of the authors. Any form of plagiarism will lead to direct
rejection. The relevant sources should be duly acknowledged as footnotes. The
decision of the reviewers in this regard shall be final.
- Authors are
requested to send an electronic version of their manuscripts (.doc or .docx
format) to email@example.com with the subject as “Submission”. All
queries may be addressed to the Editors on the aforementioned email address.
- Submission deadline for the Article,
Notes and Comments is on the 31 July 2013.
Extension of Date for Implementation of Modified ESOP Rules
this year, SEBI had announced
the implementation of amended rules for the issue of employee stock options
(ESOPs), which restricted the types of schemes to only those that comply with SEBI
(Employee Stock Option Scheme and Employee Stock Purchase Scheme) Guidelines,
1999. Particularly, curbs were imposed on the acquisition of shares in the
secondary markets by ESOP trusts. The rationale for these measures was previously
discussed on this Blog. These measures were to take effect on June 30, 2013
by which time companies were required to ensure compliance of their ESOP
programmes with these requirements.
the implementation of these new requirements until December 31, 2013, primarily
due to representations received from industry participants. By then, the ESOP
schemes of companies must be brought in line with these rules. Failing this,
the securities acquired by the ESOP trusts must be divested by that date. It
has also been clarified that this revised set of guidelines is applicable to
all employee benefit schemes involving the securities of the company provided
that the schemes are set up, managed or financed by the company directly or
indirectly if any of the following conditions are satisfied:
a) if the company has
set up the scheme or the trust/agency managing the
b) if the company has
direct or indirect control over the affairs of the scheme
or the trust/agency
managing the scheme; or
c) if the company has
extended any direct or indirect financial assistance to
the employee benefit
schemes or the trust/agency managing such schemes.
In other words, the
stringency of these guidelines operates when there is a close nexus between the
company and the trust, but not if the trust is set up and managed truly
independently. The recent circular also sets out disclosure requirements
regarding the operation of the ESOP schemes.
1. Exemption from Takeover Regulations for Gift of Shares to
has granted an exemption
to an acquirer from making an open offer under the SEBI Takeover Regulations in
the case involving Gujarat Organics Limited (the company). In that case, the
promoter Mr. Ashwin S. Dani, owns 71.15% shares in the company, and proposes to
transfer it by way of a gift to a private trust HD Trust, of which he is one of
the trustees. The beneficiaries of the trust are his family members. The
acquirer, HD Trust, does not hold any shares in the company, while Mr. Dani has
been shown as a promoter for more than 3 years. SEBI granted the exemption for
the transfer because this was an inter se
reorganization of holdings that does not alter the control of the company
in any way. Moreover, it was a gift and merely a private family arrangement to
facilitate succession planning.
is understandable because there is no change of effective control of the
company, and an exemption order was sought from SEBI only because the
transaction may not have satisfied the technical requirements for an automatic
2. Another SEBI Adjudication Order in the IPCL Insider Trading
month, we had discussed
an adjudicating order of SEBI finding that the charges of insider trading were
not established against Mr. Manoj H. Modi and Mrs. Smita M. Modi in relation to
the trading of shares in Indian Petrochemicals Corporation Limited (IPCL). Now,
on a related set of facts and circumstances, another adjudicating
order of SEBI has found that a charge of insider trading is sustainable
against Reliance Petroinvestments Limited (RPIL), the controlling shareholder
of IPCL, and also imposed a fine of Rs. 11 crores on RPIL. The facts relating
to the information and announcements are essentially the same as that contained
in the previous post, and are not repeated here.
legal perspective, SEBI’s assertions are based on two grounds. The first is
that RPIL is a “deemed connected person” and second that it is “reasonably
expected to have access to unpublished price sensitive information” with
respect to IPCL. This is necessary to establish RPIL as an insider with respect
to IPCL. On the first count, SEBI found that RPIL and IPCL are companies under
the same management as they are under the common control of Reliance Industries
Limited, which is a fact-based determination. On the second count, SEBI found
that as a controlling shareholder of IPCL, RPIL is naturally said to have
access to unpublished price sensitive information (UPSI) relating to IPCL:
The above facts establish that RPIL was having control over IPCL. It may therefore,
be concluded that by virtue of RPIL having control over IPCL, it was reasonably
expected to have access to UPSI of IPCL. Noticee being the promoter having
control over the company holding approx. 46% shares of IPCL is inherently
expected to have access to UPSI. Noticee being in such a position it is
unacceptable that the Noticee was not aware of such major/ important decisions
of the company IPCL.
conclusion suggests that any promoter entity that falls within the definition
of a “deemed connected person” would generally have access to UPSI in relation
to the investee company and that nothing more needs to be shown.
3. Interpretation of the MAC Clause in Financing Documentation
England and Wales High Court passed a ruling, which interprets the material
adverse change (MAC) clause in financing documentation. In that case, the
lender withheld further funding based, among other things, upon the occurrence
of a MAC event that adversely affected the borrowing company. Although the
judgment is quite long and involves ascertainment of detailed facts, the
interpretation of the MAC clause is summarised in the judgment as follows:
364. In summary, authority supports the following
conclusions. The interpretation of a "material adverse change" clause
depends on the terms of the clause construed according to well established
principles. In the present case, the clause is in simple form, the borrower
representing that there has been no material adverse change in its financial
condition since the date of the loan agreement. Under such terms, the
assessment of the financial condition of the borrower should normally begin
with its financial information at the relevant times, and a lender seeking to
demonstrate a MAC should show an adverse change over the period in question by
reference to that information. However the enquiry is not necessarily limited
to the financial information if there is other compelling evidence. The adverse
change will be material if it significantly affects the borrower's ability to
repay the loan in question. However, a lender cannot trigger such a clause on
the basis of circumstances of which it was aware at the time of the agreement.
Finally, it is up to the lender to prove the breach.
MAC clause has been extensively litigated in the last few years following the
financial crisis, especially in M&A that is supported by acquisition
CSR and Global Supply Chains
The tragic building collapse in Bangladesh has brought to
the fore corporate social responsibility (CSR) issues involving global supply
chains as the building is said to have housed factories employing workers
manufacturing apparel for well-known global brands. Apart from the focus on
local regulations and their enforcement in Bangladesh, the spotlight is now
also thrown on the role of the multinational companies (MNCs), most of whom are
domiciled in developed nations, as procurers of the products being manufactured
in the building. While some of the MNCs have opted to withdraw from Bangladesh,
others have vowed to stay on and improve conditions.
All of these give rise to CSR issues, which are not in any
way novel. The intense competition and squeeze on margins place emphasis on
cost reduction. While the benefits of the cost reduction are enjoyed by
shareholders and customers, this leaves the employees vulnerable, as this
episode has shown once again. This will only increase the demand for companies
to meet “triple
bottom line” with focus on workers’ rights, human rights, environment and
a sampling of the debate that this tragedy has evoked, see Forbes,
Shareholder Activism Enters the Boardroom
Over the last month or so, an interesting debate has surfaced
that takes shareholder activism to the next level. As the Deal
Professor column notes, two hedge funds have initiated proposals whereby
they have promised to pay their nominees, if elected to the board of the
investee company, director compensation linked to the profitability of the
company as if they were executives. The promised compensation has two parts:
one, a fixed retainer/fee; another, a bonus depending upon the financial
performance of the company that could extend to a few million dollars. This has
the effect of treating institutional shareholder nominees on par with
executives for the purpose of compensation. This development raises a number of
legal issues pertaining to corporate law and corporate governance. Although the
details regarding the issue are only beginning to get fleshed out, a post
on the Conglomerate Blog helpfully provides links to the key debates.
Although shareholder activism has taken off quite strongly in
India (as noted here and here), it
might be some time away before the issue of institutional investor nominees
takes such a deep grounding in the Indian context. Nevertheless, it is useful
to consider some of the key conceptual issues that this gives rise to:
first issue relates to who pays the compensation to the institutional nominee
directors. The current trend seems to suggest that the compensation is paid by
the nominator/investor rather than the company itself, which would minimise the
effect of the usual issues pertaining to executive compensation if it were to
be paid by the company itself.
appointments could create factions on the board, i.e. between the inside
directors (executives) and the so-called outsiders (nominees), thereby possibly
curbing efficient (if not effective) decision-making. A contrarian approach to
this would suggest that such differing views and perspectives may actually be
beneficial to the overall well-being of the company and the interest of the
could be questions regarding the effectiveness of the nominee directors. For
example, given that they are non-executive directors, they may have
difficulties in accessing information regarding the business of the company or
to other officers in the same way as an executive director can.
is unclear if the nominee directors may be willing to take on the risk of
facing liability because they may have responsibilities without the accompanying
power or control within the company.
these directors are nominated by the institutional investors (who may have a
significant holding in the company), it is unlikely that these directors would
be treated as independent directors. Their appointment on the board may tilt
the balance of independent and non-independent directors which may make it
difficult to comply with the requisite board independence requirements under
the corporate governance norms without appointing more independent directors
maintain the appropriate balance.
the nominee directors would owe fiduciary duties to the company, they are in an
unenviable position whereby they may have to prefer the interests of the
company over those of their nominating investor in case of a conflict between
These are only some initial
thoughts, but a number of other issues and concerns on both sides of the debate
are contained in the links provided above.
Update – May 14, 2013: A memo
from Wachtell Lipton provides a strong response to the proposal for offer of incentive
compensation to investor nominees, and a column
by the Deal Professor advocates caution in adopting the incentive compensation
(The following announcement comes to us from the National Law School of India Review)
Law School of India Review (NLSIR) - the flagship journal of the National Law School of India
University (NLSIU), Bangalore is
pleased to announce the VIth
NLSIR Symposium on “Mapping the Future of Commercial
Arbitration in India”
scheduled to be held on May 18 and
19, 2013 at the NLSIU campus. The
last three years have witnessed dynamic shifts in the law and practice of
Arbitration in India. While there have been steps in the right direction, an
unwieldy system continues to weigh down practitioners. Four years after first
delving into the nuances of commercial arbitration in India, the Symposium
hopes to assess the development of Arbitration law over the last few years.
Confirmed speakers for the symposium include renowned legal luminaries such as Hon’ble Mr. Justice (Retd.) S U Kamdar
(Former Justice, Bombay High Court), Mr. Anirudh Krishnan (Advocate, Madras
High Court), Mr. Ashwin Shanker (Advocate, Bombay High Court) Mr. Aditya Sondhi
(Advocate, Karnataka High Court), Mr. Ajay Thomas (Registrar, London Court of
International Arbitration, India), Mr. Vivekananda N. (Head (South Asia) & Counsel,
Singapore International Arbitration Centre), Mr. Nangavaram Rajah (Nani
Palkhivala Arbitration Centre), Mr. Promod Nair (Partner, J Sagar Associates),
Mr. Shreyas Jayasimha (Partner, AZB & Partners), amongst others.
This year, the discussions will be
divided into four panels:
Session I: The Implications of BALCO on Arbitration Practice
(Forenoon, May 18, 2013, Saturday)
Session II: Revisiting the Expansive
Role of the Indian Judiciary and its Implications
(Afternoon, May 18, 2013, Saturday)
Session III: Determining the
Governing Law of the Arbitration Agreement – Arsanovia and Beyond
(Forenoon, May 19, 2013, Sunday)
Session IV: The Way Forward: A Call
for Institutional Arbitration?
(Afternoon, May 19, 2013, Sunday)
for those who make an advance payment/bank transfer is Rs. 500 for students and
Rs. 1000 for others. All those interested are requested to
The registration fee for
those who register at the venue is Rs. 750 for students and Rs. 1250 for
For further information,
please contact Ashwita Ambast (Chief Editor): +91-9986478265; Sahil Kher (Deputy Chief Editor):
+91-9739265715 or email us at firstname.lastname@example.org
Competition Law Risks: Non-Compete Clauses in M&A Transactions – Part 2
[The following post is contributed by Soumya Hariharan, who is a Foreign
Lawyer at Rodyk & Davidson LLP’s Corporate & Competition Law Practice
in Singapore. Soumya obtained her BSL.LLB degree from ILS Law College and has an
LL.M degree (Corporate & Financial Services Law) from the National
University of Singapore. She can be reached at email@example.com.
These views are personal.
After dealing the general overview of the issues in
post, Soumya now discusses the manner in which the CCI has dealt with the
issue in India and also provides some pointers to drafting non-compete clauses
such as they withstand scrutiny under law]
Treatment of Non-Compete Clauses in India
The merger control regime in India came into force only in 2011 and the
CCI in one of its recent decisions, accepted modifications in relation to the
non-compete obligations entered into between the parties to the combination.
This has been the first time the CCI has provided clarity on how it views
non-compete obligations in relation to proposed combinations in India.
Orchid Chemicals and Pharmaceuticals Limited (“Orchid”) and Hospira
Healthcare India Private Limited (“Hospira”) filed a notice under Section 6(2)
of the Competition Act 2002; pursuant to the execution of a Business Transfer
The CCI observed that the BTA contained a non-compete clause, which
required Orchid and its promoter not to undertake certain business activities
pertaining to the transferred business for a period of eight years and five
years, respectively. The non-compete clause also restricted research,
development and testing of Penem (including Carbapenem) and Penicillin API’
(Active Pharmaceuticals Ingredients) for injectable formulations. The CCI
opined that non-compete obligations if necessary to be incorporated should be
reasonable, particularly in respect of (a) the duration over which such
restraint is enforceable; and (b) the business activities, geographical areas
and person(s) subject to such restraint in order to ensure that such
non-compete obligations do not result in an appreciable adverse effect on
The parties to this combination, offered modifications under the
provisions of Regulations 19(2) of the Combination Regulations. The parties
agreed to (a) limit the duration of the non-compete obligation to four years in
relation to the domestic market in India; and (b) provide in the BTA that
orchid shall be allowed to conduct research, development and testing on such
new molecules, which would result in the development of new Penem (including
Carbapenem) and Penicillin API’ for injectable formulations, which are
currently not existent worldwide.
The CCI accepted the modifications offered by the parties and also
directed them to make the necessary amendments in the BTA to incorporate the
modifications. The CCI approved the
proposed combination under Section 31(1) of the Competition Act 2002. This
decision of the CCI is helpful as it provides a basic framework as to how the CCI
interprets non-compete obligations in an Indian context It is possible that the
CCI may provide greater clarity in the treatment of non-compete clause in
subsequent cases notified before it.
Drafting an Approriate Non-Compete Clause
The trend in Europe indicates that competition law regulators are
keeping a keen watch on the use of non-compete clauses in M&A transactions.
Non-compete clauses are of great commercial importance and parties must ensure
that they are drafted in compliance with competition law.
The cases discussed above also serve to remind that the investigation
into the non-compete obligations did not arise from complaints by third parties
or competitors but was initiated by the EC itself.
Parties that wish to incorporate non-compete clauses should have a
two-fold objective while drafting them i.e. non-compete clauses should be
drafted appropriately not only to obtain a favorable merger clearance but also
to avoid any anti-competitive concerns arising from the operation of such
clauses. As a general rule, for non-compete clauses to be considered ancillary
restraints they must be directly related and necessary for the operation of the
Some of the main points that parties could bear in mind while drafting
non-compete clauses, include:
- the duration of the non-compete should be reasonable
- the scope of the non-compete activity must relate to
the particular economic activity in order to avoid broad non-compete
obligations that prohibit competition outside the scope of the transaction;
- any restrictions imposed by the use of the
non-compete clause must be directly
related and reasonably necessary for the implementation of the transaction;
- any geographic restrictions imposed by way of
non-compete obligations must not operate as market-sharing arrangements; and
- in relation to India, the operation of the
non-compete clause does not result in an appreciable adverse effect on
It would be prudent for companies to engage competition lawyers early in
the transaction, to carry a competitive analysis on the use of non-compete
clauses. The analysis would help companies to identify the geographic coverage,
required duration and the legitimate scope of the non-compete to ensure that
the non-compete clause is drafted appropriately taking into account the
possible anti-competitive effect such an obligation would have on the
Chemicals/ Hospira Healthcare (C-2012/09/79)
Competition Law Risks: Non-Compete Clauses in M&A Transactions – Part 1
[The following post is contributed by Soumya
Hariharan, who is a Foreign Lawyer in Rodyk & Davidson LLP’s Corporate and
Competition Law Practice in Singapore. Soumya obtained her BSL.LL.B degree
from ILS Law College and has an LL.M degree (Corporate & Financial Services
Law) from the National University of Singapore.
These views are personal.
In this first part, Soumya provides a broad overview
of competition law risks arising from non-compete clauses and how they have
been dealt with by the European Commission]
Competition law regulators have been actively investigating non-compete
clauses in Merger and Acquisition (“M&A”)
jurisdictions recognize that certain contractual restrictions in the form of
non-compete clauses may be directly related and necessary for the successful
implementation of a merger. However there are times when non-compete clauses
incorporated in M&A transactions and joint ventures carry the risk of
infringing competition law.
Non-compete clauses that carry competition law risks can delay deal
timelines and affect the transaction from obtaining a favorable clearance from
the competition law regulator. Companies stand a risk of investigation by the competition
law regulators and financial penalties can be imposed for illegal non-compete
This series of posts aims to give a broad overview on how non-compete
clauses in M&A transactions carry certain competition law risks, in light
of recent decisions rendered by the European Commission (“EC”) and the
Competition Commission of India (“CCI”). The article also highlights the
importance of drafting non-compete clauses in compliance with competition law.
Ancillary Restraints and Non-Compete Clauses
Non-compete clauses are usually negotiated in most M&A transactions and it is fairly common for the Acquirer to require
non-compete obligations from the Vendor. To effect a successful transaction, certain
restrictions on competition between the Parties are required to the extent that
they are directly related and necessary for the implementation of the merger.
Such restrictions, negotiated by the Parties are referred to as
“ancillary restraints” in competition law parlance. The most common examples of
ancillary restraints include non-compete clauses, license agreements, purchase
and supply agreements.
Usually it is standard business practice to incorporate non-compete
obligations for the effective implementation of the proposed merger that allows
the Acquirer to obtain full value from the acquired assets including tangible
and intangible assets such as know-how and goodwill. In Europe, the 2005 Notice on restrictions directly related and necessary to concentrations
(the “Ancillary Restraints Notice”)
provides clarity and guidance on the treatment of non-compete clauses.
The EC has been scrutinizing non-compete clauses that may result in a breach
of competition law, i.e. cases where the non-compete clause is not directly
related and necessary for the implementation of the merger.
Two recent decisions of the EC provide further clarity as to how it interprets
non-compete clauses. One of the cases
deals with an illegal non-compete entered into by two telecom operators, where
the non-compete clause operated as a market sharing agreement. The second case
deals with a non-compete clause that was operative post the termination of the
joint venture which was considered excessive in scope and duration by the EC. The
following cases serve as effective guidance to those companies that plan to
incorporate non-compete clauses in their M&A transactions.
Telefónica and Portugal Telecom
In 2011, the EC investigated two large telecom players Telefónica and Portugal
Telecom in relation to a non-compete clause in the context of Telefónica’s
acquisition of sole control of the Brazilian mobile operator Vivo. They were
fined EUR 79 million for a breach of Article 101 of the Treaty on the
Functioning of the European Union (TFEU) which prohibits anti competitive
Article 101 prohibits all agreements, decisions and practices between
undertakings and concerted practices which may affect trade within EU member
states and which have as their object or effect the prevention, restriction or
distortion of competition within the EU market.
In 2010, Telefónica acquired sole control of Vivo which was until then
jointly owned by both Telefónica and Portugal Telecom. The parties entered into
a non-compete clause in their purchase agreement as a part of the acquisition which
required Telefónica and Portugal Telecom not to compete with each other in
Spain and Portugal from the end of September 2010.
The EC held that by implementing the non-compete clause, Telefónica and
Portugal Telecom deliberately agreed to stay out of each other’s home markets
rather than competing with each other. The
parties terminated the non-compete agreement in early February 2011 nearly four
months into operation by offering commitments to the EC. It is useful to note that in this case, the EC
commenced investigations on its own initiative and fined Telefónica and
Portugal Telecom notwithstanding the short duration of the infringement.
In 2001 Areva and Siemens established a joint venture Areva NP, which
combined their activities in nuclear technology and nuclear power plants. The Shareholders
Agreement for the joint venture included a non-compete clause for a period of
11 years from the termination of the joint venture. The non-compete clause covered
the core nuclear services of the joint venture as well as non-core products and
services in relation to which the joint venture was not active. In 2009,
Siemens withdrew from the joint venture and Areva acquired sole control over
the joint venture.
In 2010 the EC opened an investigation over the competition concerns
relating to the non-compete clause. The
EC adopted a preliminary decision in 2011 that Siemens and Areva had infringed
Article 101 due to the non-compete obligation being excessive in scope and
duration. According to the EC the scope of the non-compete clause was excessive
because it prevented Siemens from competing in markets where Areva NP was only
a re-seller of Siemens products.
To address the concerns of the EC both Siemens and Areva offered commitments,
to limit the scope of the non-compete clause to Areva NP’s core products and
services for a period of three years after Siemens exit from the joint venture.
Under the commitments the non-compete obligations would only apply to certain
core products and services offered by the joint venture company solely
controlled by Areva.
 The European
Commission investigated Telefónica and Portugal Telecom in 2011 and investigated Areva and
Siemens in 2010.
European Commission fined Telefonica and Portugal Telecom EUR 66894000 and EUR
12290000 respectively for agreeing not to compete with each other.
COMP/39736 dated 18/06/2012
Call for Papers: Indian Journal of Arbitration Law
The Indian Journal of Arbitration Law is pleased to
announce its upcoming issue (Volume 2: Issue 2), which is to be published in September
The Board of Editors cordially invites original, unpublished submissions
for publication in the following categories:
Editorial policy and
submission guidelines are available here.
One Person Company – a still-born, half-baked concept?
The Companies Bill 2012 proposes a new concept of One-person Company
(OPC). The obvious objective is to overcome the hurdle of needing a second
person to form a company, despite the saying that “two’s company”. This brief
post is to highlight its nature, some issues and also questioning the real
benefit of an OPC.
OPC, as the term implies, is a company with one and only one
shareholder. The need to have two directors also is avoided and only one
director is needed. However, unlike a shareholder, the number of directors can
be more than one. And the single shareholder need not be the director or any of
the directors. A succeeding shareholder will have to be named in case of death
of the initial shareholder.
Thus, it is expected to help an individual incorporate himself/herself.
The need to find a second shareholder/director for a proprietary business in
corporate form is avoided.
Succession/transfer of a business in corporate form is clearly easier
than if it owned in a sole proprietary form. And one can delink different
businesses in separate OPCs since there is no limit on how many OPCs one single
individual can form.
The OPC will have to add the tag One-person Company under its name.
Some other procedural concessions in terms of meetings, etc. are given for
obvious reason that there cannot be a “meeting” of a single
However, beyond a few procedural concessions, and avoidance of the need
of second shareholder/director, it is not clear what substantial benefits are
available. The relatively long/complicated procedure for formation, maintenance
and dissolution of a Company remain without any major relief. The requirement
of finding a second shareholder/director is generally not found cumbersome in India
where a friend, relative or staff member can easily act as such.
Further, except a few minor procedural concessions, the provisions of
accounts, audit, etc. would also apply to an OPC.
Certain businesses like that of finance may face problems if sought to
be carried in a Company form. Thus, an individual engaged in business of
lending or investments may need prior registration from the Reserve Bank of
India, minimum net owned funds of Rs. 2 crores, etc.
Conversion of existing proprietary businesses can create complexities of
tax. There is an existing provision in the Income-tax Act, 1961 (section
47(xiv)) which should help in availing relief from capital gains, even if
originally it was not framed with an OPC in mind. However, other tax issues may
remain. The concern of deemed dividends under Section 2(22)(e), the question of
allowability of remuneration to proprietor, etc. are some other challenges an
OPC may face. The other challenge will be of stamp duty on transfer of the
business to the OPC.
Strangely, it is not clear how an OPC may go to the next logical step of
becoming a non-OPC when it wants to introduce more shareholders. Ideally, a
simple amendment of its memorandum and articles should have sufficed. However,
there are no specific provisions enabling this. The question therefore is
whether an OPC is doomed to remain a one shareholder company during its
Conversion from a non-OPC to an OPC has also not been provided for.
Thus, an existing private limited company may not be able to convert itself
into an OPC.
OPCs should have been useful particularly in case of wholly owned
subsidiaries of companies where the parent company would be the sole
shareholder. However, there is a requirement that makes one wonder whether a
company can be the sole shareholder. The definition of OPC does talk of a
“person” being a shareholder. However, it is required that a succeeding
shareholder be named in case of death of the initial shareholder. The concept
of death is generally understood in sense of natural persons and not companies.
Thus, unless one takes a view that this requirement is not a mandatory one or
stretch it to include dissolution of a company, the concept of OPC may not be
available for forming a WOS.
All in all, it seems that despite the initial enthusiasm that this
concept received, it seems that in practice, this by itself is not likely to
encourage sole proprietors to convert into a company in large numbers.