No Change In Definition Of ‘Control’ Says SEBI
The ‘control’ debate has officially ended even if the confusion hasn’t.
After much deliberation, India’s securities regulator SEBI said it has decided in favour of a qualitative definition of ‘control’ versus a numerical threshold or a bright-line test. That means it will leave unchanged the current definition of ‘control’ in the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011.
“Control” includes the right to appoint majority of the directors or to control the management or policy decisions exercisable by a person or persons acting individually or in concert, directly or indirectly, including by virtue of their shareholding or management rights or shareholders agreements or voting agreements or in any other manner:
The Takeover Regulations mandate an open offer of up to 26 percent of public shareholding in the case of an acquisition of 25 percent or more voting rights or the acquisition of control.
Securities lawyer Sandeep Parekh, also founder of Finsec Law Advisors, welcomed SEBI’s decision.
I’m firmly in the camp that says they should leave it as it is. The broad principle can then be interpreted by courts as opposed to a rigid rule which will have false positives and false negatives.Sandeep Parekh, Founder, Finsec Law
The Backstory
In March 2016, the Securities Exchange Board of India had issued a discussion paper seeking public comments on whether it should move from the current definition to either a framework of rights approach or a numerical threshold.
The discussion paper was prompted by two things.
1. That many other countries preferred a numerical threshold.
It is seen that in most of the countries, control has been defined in terms of the specified voting rights irrespective of de facto control. Some of the countries have also included the ability to control the composition of board members and further, ability to exercise influence over the company’s policies/shareholder meetings.SEBI Discussion Paper - March 2016
2. That the issue in India had been complicated by certain rights being granted to private equity investors that were interpreted as participative rights by the regulator and not just protective rights.
It was in the Subhkam case, that never found full resolution at the Supreme Court, that SEBI had determined a clutch of negative rights and or vetoes amount to control. That view was rejected by Securities Appellate Tribunal. Before the Supreme Court could decide on the matter it was withdrawn due to a change in circumstances.
In its discussion paper last year, SEBI had proposed a framework of rights whereby certain protective rights would not amount to the exercise of control, individually or together, if exercised under certain conditions.
The discussion paper concluded this about each option:
Option1: Framework Of Rights
Investor having the protective rights as mentioned under Option 1 would continue to be a public shareholder and acquisition of the said rights would not amount to acquisition of ‘control’ under the Takeover Regulations, 2011. However, this only being an indicative list, acquisition of other rights would be examined on the basis of the facts and circumstances of the case. In case such rights are deemed to be participative in nature, it would amount to acquisition of ‘control’ and necessitate an open offer under regulation 4 of the Takeover Regulations, 2011. However, this approach may lead to further complexities in assessment of control and lead to ambiguity in interpretation.
Option 2: A Numerical Threshold
In case Option 2 is adopted, the acquisition of control through other means such as
special rights, etc. would not necessitate an open offer requirement under the
Takeover Regulations. However, it would reduce the uncertainty in the assessment of acquisition of ‘control’ and bring clarity. Further, the extent of influence by the investor over the board of directors would also be ascertainable in all cases.
The Outcome
But all of this has come to naught as SEBI’s statement on Friday made clear. It said...
- the public response to the discussion paper was mixed, with no particular option garnering overwhelming support.
- that the ministry of corporate affairs and a few other stakeholders opined that a change may reduce regulatory scope, may be prone to abuse, and that it would be more appropriate to decide case-by-case.
- that any change would have far-reaching consequences since a similar definition of 'control' is used in the Companies Act, 2013 and other laws.
It also referred to the 1995 Justice Bhagwati Committee and the 2011 Takeover Regulations Advisory Committee – both of which had recommended that control be defined qualitatively and hence the current definition.
“I think it's the wrong outcome,” said Ashwath Rau, a leading M&A lawyer and partner at AZB & Partners.
This continues to be a subjective test. Whilst it will always have an element of subjectivity, this clarity was important, particularly for private equity. Now the opportunity to remove at least some part of the ambiguity created by Subhkam is lost.Ashwath Rau, Partner, AZB & Partners
The SEBI decision may end for now an important debate and the expectation that the regulation would cast a new light on it. But, as some lawyers expect, the confusion will continue.
An earlier version of this story was corrected to amend an error made in the quote attributed to Ashwath Rau.