Hello and welcome to The Firm.
Letís start with the new twist to a very old controversy. Are ROFRs or pre-emption rights and call and put options legally valid? Now, after several conflicting High Court judgments, market regulator SEBI has, for the first time, taken a stance and a surprising one at that! It told Vedanta that the put and call options and the pre-emption rights in its agreement with Cairn must be removed from the Sale Agreement as they do not comply with certain Indian securities regulation. That SEBI position could put at risk several shareholder agreements. So is India Inc. rushing to rework? To answer that I am joined by Ashok Gupta, Group General Counsel at the Aditya Birla Group and Vijaya Sampath, Group General Counsel at the Bharti Group.
Doshi: What do you think prompted SEBI to take this stance even as we are awaiting, letís say, Division Bench judgment from the High Court and the fact that this could eventually end up in the Supreme Court several years down the line?
Gupta: I think the position, so far as law is concerned, is fairly clear. There canít be restrictions in the articles of the company about free transferability. But call and put option or pre-emption rights which are covered by SPA (Share Purchase Agreement) - no authority would have any concern about it. This is purely a private arrangement and contractual obligation.
Doshi: And all these years nobody has; itís only in the last 2 or 4 years, I think, this matter has come to boil? Isnít it?
Gupta: Absolutely right and therefore what went behind SEBIís insistence to wave this off is very difficult to ascertain unless they are wearing a different cap or they are saying till such time there is a decision of the Supreme Court, they would rather err on the safer side. I mean I could only guess this would be the reason for SEBI to come to this conclusion but in my view even if that decision is taken, this is something which is going to create a big problem for all kinds of transactions in the corporate world.
Doshi: Considering that, like I pointed out, for several years there seems to be no dispute. Call and put options are almost common fare now in most shareholder agreements; as are pre-emption rights or ROFRs in several shareholder agreements. How do you think SEBI could justify taking a new stand on an old law and a stand which is clearly in contrast to its position till now? Till now, SEBI has never raised this issue and suddenly you have got SEBI inserting this condition with regards to approving an open offer in another deal?
Sampath: True; actually I would not even dare hazard a guess as to reasoning for SEBIís recent direction but if you look at the SEBI Act, the objective of SEBI is protection of interest, regulation and promotion of markets in the securities field- that is their objective. And frankly, I don't know how a put and call option in an agreement-which is not envisaged in law; itís only a contractual arrangement. No law really refers to a put and a call option. So itís purely a contractual arrangement between two parties and therefore I am really not able to understand the reason for SEBI's direction because unless it has an impact on the general public or the investors or in any way prohibits or inhibits the markets, the regulation and the promotion of securities markets, I don't see why SEBI could have done this. In my view, itís nothing to do with free transferability of shares because thatís completely different. Section 111A has been misinterpreted by many people to believing that it means that it's a free for all; it doesn't mean that. It only gives the direction to the Board in order to ensure and protect those who file for transfer of shares. It was actually done at the time of Depositories Act because then the Board didnít have too much of a say and shares were done in the demat form. It was only done for a different purpose. So I really fail to understand but I do not know what SEBI is thinking of the matter, so I really canít even hazard a guess in that direction.
Doshi: But doesn't this also, to some degree, contrast with SEBI's own position? For instance, there are restrictions that SEBI imposes as part of its Regulations on the promoters or when you pledge shares, there is some amount of impinging on free transferability of shares that comes in there- all this is allowed but suddenly call and put options are not allowed ROFRs are not valid. How do you explain this contradictory stand?
Gupta: If I were to because there seems to be no distinction so far as corporate law is concerned and we would like to treat all the securities or restriction thereon alike.
Doshi: Yes, we are only talking about listed companies as of now because that's what SEBI's jurisdiction is?
Gupta: Exactly but if somebody had to give benefit of doubt to SEBI, saying why are they making a distinction between call and put option or pre-emption rights, the only reason could be is a larger lay investors protection. Whether that is being served by making a distinction of this nature or not is a moot point. In our view it is not so.
Doshi: Donít you think that, to some degree, this contradicts SEBIís own stand when it comes to, letís say, promoter lock-ins, or various other restrictions that policy requires to be put in place and yet call and put restrictions or ROFR restrictions are not kosher?
Sampath: I agree. For example a pledge of shares that is required, certain non-disposal undertakings that are required for lenders governance- all these also put some restrictions- but those are contractual arrangements that somebody voluntarily agrees to. As long as it doesnít impact the general public or the investor in particular and the small investor at that, I donít see the reason at all why there would be a restriction or a prohibition on the call and the put option. Perhaps it stems from the BALCO arbitration award; perhaps, I donít know. There again, I beg to differ and perhaps side more with the dissenting opinion for the simple reason that this was the government that put the clause into the contract in the first place and later on, I believe that, just said that it is not applicable and therefore it is illegal. So that part of the contract was not enforceable and this was upheld by two arbitration panelists and there was one dissenting judgment on that; so perhaps it stems from that.
Doshi: So are you surmising that because the government took position in the BALCO case, where the government is also playing shareholder and therefore it is a slightly confused situation that call and put options are not legal and now SEBI may have taken cue from that and said-well if that is how the government thinks, then maybe we also need to enforce that in shareholder agreements that come to us.
Sampath: Perhaps that is a matter of abundant caution if SEBI has taken that position. As I said before, it would be very difficult to hazard or even guess what is the reason for it and SEBI may have had good reasons; unfortunately we are not privy to that and for a Group General Counsel like me, I would still go ahead and put them into the contracts because I am not really sure that they are illegal- illegal means void and that means that they were never existing as of the date. I do not see anything in any law which prevents that, even all the Sections that are quoted- the Securities Contract Regulation Act, Section 20, 22A, 16, and then again 111A of Companies Act- none of them really prohibit this.
Doshi: So you are brave enough to go ahead and include them. Is that how it stands with you Mr Gupta as well?
Gupta: Itís the most practical. In a business environment where we work, how do you really protect your interest and it is unlikely that all transaction will happen at one go. It is staggered over a period of time. It is but natural. If you were to compare property right for instance - you are entitled to dispose or put a restriction- this is also a kind of property. Why would this mean, as an owner, we are not allowed to put restrictions; so long as we are not compromising minority shareholding and we are not contravening any provision of law.
Doshi: I get that, and that has been the case or that has been the stand for several companies across the country, even as we have gone through, over last 2-3 years, conflicting court judgments. I think most General Counsels that I speak to have come around to the view that we may not be able to enforce this by embedding in the Articles of Associations because that means the company becomes party to impinging on free transferability but as long as it is a contractual agreement between the two shareholders that the company has no role to play in, it should be absolutely fine. That is not the case here. SEBI has specifically asked Cairn and Vedanta not to include it in their agreement. So if you had an agreement that was likely to get scrutinized by SEBI, would you still go ahead and include ROFRs and call and put options?
Gupta: I would and I would defend myself for the reason you just mentioned. I can appreciate and understand there canít be additional conditions for transfer of shares other than what is provided for in law, and therefore it canít form part of Articles of Association but so long as I am entering into a private negotiation and contract, and this is not against public interest or against law of the land, I am perfectly legitimate in putting it up and there seems to be no other interest other than protecting our mutual interests. I am not going to affect the minority interest. If there is a concern, of course, we will address that.
Doshi: And if SEBI says that please take them out, as it did to Cairn and Vedanta as they do not comply with certain India Securities Regulations, what are you going to do? Challenge the regulator?
Gupta: We will have to again understand SEBIs position because there must be some logic; may be perhaps strong reasons for them to come to this conclusion and we donít know what the partyís compulsions or not compulsions were. But in our case, I think it is quite commercially legitimate to put this kind of restriction and understand SEBI's point of view and only then take a view. I mean simply saying withdrawing from it is something not acceptable. Secondly we must also understand this is very common not only in India, internationally.
Doshi: Absolutely, it exists in shareholders agreements across the world.
Gupta: Everywhere and if we are debarred from doing it, most of the transactions having this provision, at least transactions that are having this provision, will lag behind actually and you canít put 100% money in the first go, that I have to use call option.
Sampath: Also, what would happen is, it would create a lot of concern with international investors because many of the agreements today- and this is quite ubiquitous actually and very common commercial arrangement- they would feel very uncomfortable about enforceability of contract we have already put into these agreements. If you say, for example, tomorrow ROFR is illegal and put and call options are not legal, then it would create a lot of concern in international community as well as Indian community; I am not ruling that out, as to enforceability of contracts in India, what happens.
Doshi: So what do you do here onwards? I know both of you have said that you would continue to use both call-put options as well as ROFRs and we donít have any clear communication from SEBI as to why they have said this. All we have is this Cairn-Vedanta press release to go by. But letís say that in yet another case, SEBI says the same thing. Would you then be forced to reconsider your position and say alright, it looks like the regulator is standing strong against these restrictions and therefore I may have to do away with them because you wonít get approval if the regulator is not in favor of them?
Sampath: True but in such cases it is either convinced or be convinced. So we need to understand the logic for this. We need to understand why SEBI has done that. I am sure they have some reason for it, perhaps we donít know that and once we understand that, then you could find a solution and a resolution to find out whatís behind this but to generally say that on a general principle all call and put options are illegal or not allowed seems to me rather very-very strong.
Doshi: We are at least several years away- 3, 4, 5 may be- from having a final verdict from, letís say, the Supreme Court. I havenít heard of any of these cases having, in fact, even reached the doors of the Supreme Court as yet. So till this case is settled or till this law is settled or interpretation is settled, it could be 3 or 5 years. Are you expecting to see ensuing confusion on ROFRs over the course of the next 3 or 5 years? SEBI says no today, someone else says yes tomorrow. Division bench in Bombay High Court says we agree with the previous Division Bench judgment, ROFRs are fully valid- what do you expect over the course of the next 3 or 5 years?
Gupta: I hope not actually because this is not only one business, many businesses will get impacted. Private equity for instance, this is bread and butter for them.
Doshi: As long as they are in the unlisted space, they should be alright?
Gupta: Yes but thatís confining their business activity. They would be investing elsewhere as well. They will be funding large number of projects in listed companies and this is a very standard protection mechanism for them.
Sampath: I really wouldnít like to wait for the decision of the Supreme Court. I agree with what Ashok says on this. Also, we must remember issues if something has to be included in the Articles of Association to make it binding against the shareholders of the company- thatís been hanging fire for so many years and still we donít have the finality to it. So there are lots of issues which law has always left to interpretation. I also believe everything depends on the facts of each individual case. You canít have a general situation. So there could be facts, there could be differences but these are all commercial agreements and as long as there is nothing in the law- and I am open to correction- but my belief is I do not see anything in the law which completely prohibits put and call options. So as long as that is there, I believe we should go ahead and try.
Doshi: If there is a partner that disagrees with you or for some reason falls out with you, it can always use the greyness that exists right now in terms of jurisprudence, in terms of regulatory position and say- hey when we signed it, we thought it was legal but itís actually illegal. So I donít really need to honor my ROFR.
Gupta: Absolutely and moreover they would be justified in saying that because if I were to exercise, I will be breaching the law. So there is an excuse for them.
Doshi: So despite all the bravado, we are still stuck in a grey area for the next few years till we do get that Supreme Court judgment, whenever it comes. Right?
Sampath: Yes, if we do get the Supreme Court judgment.
Gupta: Or may be some clarity from the regulator itself. They must realize how the court functions. The capital market, their (SEBI) interest in protection of investors and its interest in increasing the width and depth of the capital market are small steps whereby you can increase that.
Thank you very much for putting up a brave defense in favor of ROFRs, call and put options but I hope you never have to eat your words over the course of the next few years. Thank you very much Mr Gupta and thank you very much Ms Sampath for joining us on this edition of The Firm.