Cementing the path for a notable modification in the manner that the promoters and more than 5,000 publicly-listed corporate entities operate in India, the Securities and Exchange Board of India (SEBI), in a consultation paper has suggested doing away with the concept of promoters and shifting to ‘person in control.’ It has proposed the change to put an end to the present definition of promoter group with an idea to streamline the disclosure encumbrance. Apart from this, SEBI has announced a few other proposals that include (a) decreasing the minimum lock-in period (tenure an investor can hold on to the securities) after an initial public offer (IPO) for promoters’ portion of a minimum 20% from the current three years to one year, and the lock-in period for holding more than 20% from one year to six months; and (b) decreasing the lock-in period for pre-IPO shareholders (those who invest in the entity even before the public issue) from the current one year to six months.
The notion of the promoter is a heritage from history when a corporate body or a group of companies (say, a business house like Tata, Birla and so on) would establish a business unit; for example, a power or steel or fertilizer plant, by pledging some funds of their own and financing the remainder of the project cost by borrowings from banks or financial institutions, on top of raising funds from the capital market. This business unit would remain linked with the establishment – virtually all through the life-span of the project – having a fundamental interest in safeguarding its constant profitability and progress and consistently work for achieving this goal, thereby obtaining the position of what one may label as ‘once a promoter, always a promoter’.
FIRST LESSONS IN INTERPRETATION OF CONTROL
In order to move with the times, SEBI in its Board meeting on 6th August, 2021 gave in-principle assent to move from the concept of promoter to ‘controlling shareholders’ as was recommended in the Consultation Paper dated 11th May, 2021 which dealt with the evaluation of the structure relating to promoters and the promoter group. Although the Consultation Paper has mentioned many other viewpoints and aspects, restructuring the definition of the promoter group rationalising the disclosure needs for group entities is one of the key changes proposed. This seems to be a branding modification in the configuration of the company law.
The Companies Act, 2013 along with the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 has defined the term promoter ‘as a person who has been named as such in a prospectus or is identified by the company in the annual return in section 92; or a person who has control over the affairs of the company, directly or indirectly, as a shareholder, director or otherwise; or a person with whose advice, directions or instructions the Board of Directors of the company is accustomed to act.’ A person or group of people to be categorised as a ‘promoter group’ should have at least 20% equity share capital.
As per the Consultation Paper issued by SEBI, a controlling shareholder is to be defined as ‘A person who has control over the affairs of the company, directly or indirectly whether as a shareholder, Director or otherwise.’ The concept of controlling shareholders would restructure the tactic followed by controllers while levying any compulsions and transferring the responsibility of obeying statutory compulsions over to the controlling shareholders.
According to Regulation 2(1)(e) of the Takeover Regulations, 2011, the term ‘control’ has been defined as the right to appoint the 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. In an identical manner, the term control has been defined u/s 2(27) of the Companies Act, 2013 as well.
Though the clarification of the term control given by the SEBI has been swinging, in the case of Subhkam Ventures vs. SEBI, the SEBI pronounced that defensive agreements, namely, positive votes extended to the nominee Director of the investor on issues such as amendment of the articles of association, alterations in share capital, consent of the annual business plan, reorganisation of the investee entity, the nomination of significant officers of the entity, etc., all these qualify as gaining of control by the investor.
However, on appeal the Securities Appellate Tribunal (SAT) opined that control is a power by which, on the one hand, an investor can instruct an entity to do what it wants to do. It was also explained by the SAT that the power by which an investor can prohibit an entity from doing what the latter wants to do cannot by itself qualify as ‘control’. SEBI appealed against the SAT order before the Supreme Court. However, the Court could not pronounce its verdict due to the removal of the case owing to the departure of the investor.
The interpretation of the term ‘control’ came up before the Whole-Time Member (WTM) of SEBI for judgment in the case of Kamat Hotels vs. SEBI. The WTM had to resolve, inter alia, whether there had been a takeover of control by the Noticees just by virtue of entering into a contract under which they were allowed a number of privileges that would activate an open offer under the Takeover Code, 1997. The WTM judged that the determination of ‘control’ because of the existence of positive voting rights in light of the realities of the case was inappropriate. The WTM, with regard to the privileges accessible to the Noticees as per the contract specified as above, made an obiter pronouncement in its order: ‘It is apparent that the scope of the covenants, in general, is to enable the Noticees to exercise certain checks and controls on the existing management for the purpose of protecting their interest as investors rather than formulating policies to run the target company.’
However, since the contract ended on 31st July, 2014 and the terms and clauses that allegedly bestowed ‘control’ on the Noticees under the contract were no longer compulsory on the promoters of Kamat Hotels, therefore, the WTM opted that the determination of ‘control’ was no longer appropriate.
On the basis of earlier precedents, it looks like determination of ‘control’ shoots from several ideologies which when applied to a given group of particulars and situations offers scope for various interpretations. In this background, SEBI had proposed a Consultation Paper in March, 2016 in which the definition of ‘control’ under the Takeover Regulations was considered to be
amended as: ‘(a) the right or entitlement to exercise at least 25% of voting rights of a company irrespective of whether such holdings give de facto control, and / or (b) the right to appoint the majority of the non-Independent Directors of a company’. However, the same has not yet been executed.
IS IT THE RIGHT TIME TO MOVE FROM THE WORD ‘PROMOTER’?
Many will give a quick answer to the above question by saying ‘yes’ since the concept of ‘promoter’ has become stagnant. The concept of promoter embraces all types of casual people, blood relatives who have been suing are also treated as promoters. In short, persons who have no control whatsoever of the organisation are treated as promoters. This gives an incorrect feeling to the investors of the organisation.
SEBI should make the concept smarter, fluid and accurate rather than completely abolishing the responsibility of the leading shareholder. This can be done by employing global yardsticks. Expressions like a person acting in concert or persons in control are understood throughout the world and these will surely describe who is overseeing the entity. The minority shareholder will be better off if this modification is implemented. But it is clear that the concept of promoter has not gone away and the only change is in the terminology which has moved on from ‘promoter’ to ‘person in control’. This is a step forward because once a Promoter need not always be a Promoter.
SEBI CHASING CHANGING SCENARIO
During the previous decade, the investor scene in India experienced a radical deviation whereby a new class of shareholders has arisen as leading investors, namely, private equity funds (PEF), alternate investment funds (AIFs), mutual funds, etc. Due to this the shareholding of the promoters has come down and total promoters’ holdings in the prominent 500 listed entities by market value is on a downhill journey since 2009 when it had topped at 58%.
The new class of shareholders invests in new-age and tech businesses (although unlisted) by means of what is termed as ‘control deals’ even prior to these going in for an initial public offer (IPO) and continue to retain shares post-listing, many times being the biggest public shareholders, holding special privileges such as the right to appoint Directors.
Although the actual ‘ownership’ and ‘controlling rights’ of a company have transferred to PEFs or AIFs, the establishment that introduced the business firm continues to possess power (notwithstanding its shareholding having been reduced to a minority) as the current regulation lists it as a promoter. The market watchdog needs to fix this glitch by changing the emphasis from promoters to controlling shareholders, or the so-called ‘person in control’ (PIC). Nonetheless, it also needs to be asked whether the new class is indeed keen to take control?
These organisations signify a collection of tens of thousands of investors. However, in the case of mutual funds these run into lakhs of investors. They gather money from individual investors and many of them are high net-worth individuals and invest in companies with the prime aim of producing handsome returns. In a basic way they are financial investors, would stay invested in an entity as long as the target is achieved, otherwise they will depart; on the other hand, the role of a PIC necessitates that he stay invested over the long term. The question is, does SEBI really expect promoters to play the role of PICs.
From its suggestions on minimum lock-in period, it does not seem to be so. Post an IPO, the SEBI allows the promoter to discard his or her portion of a minimum of 20% within one year against the existing three years. Besides, holding of more than 20% can be discarded in six months instead of one year.
It is even contemplating to entirely get rid of the condition of minimum shareholding for a person to qualify as a promoter. If a unit, for instance, PEF, can dispose of its shareholding obtained before its IPO (even though big enough to give it the position of a promoter) within one year of the public issue or the condition of minimum shareholding itself is relinquished, how can it be imagined to be fair to the role of a ‘person in control’?
Irrationally, the watchdog does not even want the public to recognise the individuality of investors behind the issuer. As per the relaxed disclosure obligations, the issuer need not furnish financial statements of group entities associated with the one being listed; it need not name financial investors as promoters in IPOs; and it need not specify precise corporate entities which are part and parcel of the promoter group. How can an entity whose basis of funding is masked in privacy infuse confidence?
Today, many of the listed companies are professionally administered and much of the activity is positioned around the Board of Directors, including several Independent Directors. It also includes the Chief Executive Officer (CEO) supported by numerous teams, including the audit committee, remuneration committee, etc., for crystal-clear operations. Could the PIC role be delegated to the CEO or the BoD? The answer to this is not in the affirmative.
The members of the Board, including the CEO, are professionals. They are nominated and obtain their power from the shareholders even though by majority vote or any other method approved by them. If the majority shareholders vacate, then it is doubtful that the current CEO or BoD will continue. Further, if the former leaves within a short period, which is highly possible as per the new regulations suggested by the market regulator, then the case for the CEO or BoD serving as PIC becomes less likely. When the person who established the entity is reduced to a minority and the new group of shareholders who have majority share are reluctant to sneak into the former’s shoes, it will be tantamount to impelling the listed entity into a position of a ‘ship without a commander’.
The market watchdog should re-look at its suggestions keeping two essential principles in mind. These are, (i) the voting or controlling power of an investor must be proportional to his investment or the shares held by him, and (ii) solidity of the management. In the present situation, where the majority of shareholding is entrusted in PEFs or AIFs, they should be made accountable to accept the role of a PIC and remain invested in the entity over a reasonably long period. The market regulator must not decrease the lock-in period. It should also not abandon the prerequisite of minimum shareholding for an entity to remain in control of the firm and demand complete clarity on funding bases. Amazingly, the complete workout of the transition from promoters to controlling shareholders will prove to be pointless unless the SEBI effectively tackles the elephant in the room, viz., the definition of ‘control’.
NEW MODIFICATION IN A NUTSHELL
SEBI has recommended decreasing the minimum lock-in periods post a public issue for promoters and pre-IPO shareholders.
The consultation paper suggested a three-year transition period for moving from the promoter to the person in control concept.
If the object of the issue involves an offer for sale or financing other than for capital expenditure for a project, then the minimum promoters’ contribution of 20% should be locked in for one year from the date of allotment in the IPO.
The promoters’ holding in excess of minimum promoters’ contribution shall be locked in for a period of six months as opposed to the existing requirement of one year from the date of allotment in the IPO.
Control Person means any person that holds a sufficient number of any of the securities of an issuer so as to affect materially the control of that issuer, or that holds more than 20% of the outstanding voting securities of an issuer.
Control Person means any individual who has a Control relationship with the Fund or is an investment adviser of the Fund.
Control Person means a Director or executive officer of a licensee or a person who has the authority to participate in the direction, directly or indirectly, through one or more other persons, of the management or policies of a licensee.
The changes in the nature of ownership could lead to situations where the persons with no controlling rights and minority shareholding continue to be classified as promoters.
It will lighten the disclosure burden for firms.
The regulator has proposed to eliminate the present definition of promoter group because it would rationalise the disclosure burden.
It is necessitated by the changing investor landscape in India where concentration of ownership and controlling rights do not vest completely in the hands of the promoters or the promoter group.
This is because of the emergence of new shareholders such as private equity and institutional investors.
The investor focus on the quality of board and management has increased, thereby reducing the relevance of the concept of promoter.
It also suggested doing away with the current definition of promoter group since it focuses on capturing holdings by a common group of individuals.
It often results in capturing unrelated companies with common financial investors.
