By JAYANT M. THAKUR
Chartered Accountant
BACKGROUND – CONCEPT OF FAMILY/ PROMOTER-DRIVEN COMPANIES
IN INDIA
A peculiar and important feature of Indian companies and even
businesses in general is that the ownership and management is largely
‘promoter’-driven. There is usually a ‘founder’, an individual who starts a
business which is then continued by his children / extended family for many
generations. The founder family (which may be more than one) usually holds
controlling stake, often more than 50%. The company and group entities are
usually referred to as the ‘X group’ with X representing such family. This is
unlike most companies in the West where, even if founded by an individual whose
family may continue to hold substantial shareholding, the management is often
‘professional’.
Securities laws in India have rightly acknowledged this
feature and there are a multitude of provisions specifically recognising them
and creating an elaborate set of obligations for them. These persons are called
promoters and the various entities (family members, investment companies held
by them, etc.) are called the ‘Promoter Group’. Thus, for example, Independent
Directors are by definition those who are not from or associated with the
Promoter Group. The promoters may be treated as insiders and their trades in
shares of the company regulated. The ‘Promoter Group’ is required to have a
minimum shareholding (at the time of a public issue) and also a maximum
shareholding. It cannot occupy more than a certain number of Board seats. It
has to make regular disclosure of its shareholding. Indeed, the ‘Promoter
Group’ would generally be deemed to be in charge of the company and the buck
for any violation of laws will usually stop at them.
However, there is one curious and difficult area: How can a
person / entity, once designated a promoter, cease to be a promoter? How does
he get an exit and reclassify himself as a non-promoter? As we shall see, and
as particularly highlighted by a recent ‘informal guidance’ by SEBI, it is
relatively easy to become a promoter but extremely difficult to stop being one.
WHO IS A PROMOTER AND WHO BELONGS TO THE PROMOTER GROUP?
There is an elaborate definition of the terms ‘Promoters’ and
‘Promoter Group’ prescribed in the SEBI (Issue of Capital and Disclosure
Requirements), 2018. The Group includes the promoter family and even many
members of the extended family. It also includes specified investment entities
/ group companies / entities. Over time, this list can turn quite long as the
family expands and various new entities are formed and which are covered by the
definition.
The Promoter Group usually gets defined and identified when a
public issue is made, leading to listing of the shares of the company and all
those who are in control of the company are included. Their specified relatives
and group entities are also included. However, as time passes, new relatives
and new entities would get added. But as we will see later, while inclusion is
easy and even automatic, removing even one person is extremely difficult.
REASONS FOR GETTING OUT OF THE PROMOTERS CATEGORY
It has been seen above how easy and automatic it is to become
a promoter. Just being born in the promoter family or otherwise being related
in any of the specified ways could be enough. However, for several reasons, a
person (or an entity with which he is associated in specified manner) may
desire not to be part of the Promoter Group and be saddled with several
obligations and liabilities. There is, of course, the liability of compliance
and even of violations that he remains subject to just by the fact that he is
on the promoter list. If he is in control of the relevant company, this cannot
be escaped.
But there are various reasons why a person may want to be
excluded. He or she may have left the family and may be in employment elsewhere
or carrying on a separate independent business. He may have actually had
disputes with the company and thus no more be part of the core group. He or she
may have married and now not be connected with the company. He may not be
holding any shares or holding insignificant shares and have no say in the
company. In fact, even the whole Promoter Group or a sub-group thereof may have
reason to be excluded if they are reduced to a minority with someone else
taking a higher stake. There would, of course, be the obvious case where a new
promoter acquires most or all of the existing group’s shareholding in a
transparent way (usually by an open offer) and thus takes control of the
company.
There can be many more situations. The question is can an
existing promoter get his name removed from the list of promoters? If yes, how
and what are the conditions?
CONCERNS OF SEBI IN ALLOWING PROMOTERS TO LEAVE THE
CATEGORY
Certain obligations are imposed on promoters who are in
control of the company. If a person who is otherwise in control of the company
or closely connected with persons who are, and is allowed to represent himself
as not a promoter, he would escape this liability. Shareholders, too, perceive
a particular group as the promoters and take decisions accordingly. Thus,
generally, the regulator would want sufficient assurance before allowing the
exclusion of a person from the Promoter Group. However, as we will see below,
the conditions placed are extremely stringent and it may often be difficult for
persons to exclude themselves even for bona fide reasons.
ONCE A PROMOTER, ALMOST ALWAYS A PROMOTER
As mentioned earlier, a person and entities related to him
are required to be declared as promoters at the time of a public issue. Many
entities / persons connected with him in specified ways would also be deemed to
be part of the Promoter Group. Death would do him apart, but then the successors
to his shares would be deemed to be promoters. Thus, the person to whom shares
are willed or even gifted during the (deceased’s) lifetime would become a
promoter.
REQUIREMENT FOR RECLASSIFICATION FROM PROMOTER TO PUBLIC
The requirements relating to reclassification from promoter
to public category are contained in Regulation 31A of the SEBI (Listing
Obligations and Disclosure Requirements) Regulations, 2015 (‘the LODR
Regulations’). These are the outcome of several changes over time and also the
consequence of several discussion papers / committee deliberations. The Kotak
Committee’s report of 2017 on corporate governance had also made detailed
suggestions. SEBI is in the process of proposing yet another round of revision
of the requirements.
There are several conditions that a promoter has to comply
with to be allowed to be reclassified into the public category. Some of these
are obvious and make sense. Such a person (and persons related to him) should
not be holding more than 10% shares in the company. He should not exercise
control, directly or indirectly, over the company. He should not be a director
or key managerial person in the company. He should also not be entitled to any
special rights with respect to the company through formal or informal arrangements.
However, there are further stringent conditions and
requirements if he seeks reclassification. The promoter needs to apply to the
company and needs to demonstrate that he has complied with the other conditions
(i.e., holding 10% or less, not being a director, etc.). The Board of the
company then has to consider this request and place the reclassification
request before the shareholders with its comments. The matter has to be placed
before the shareholders after three months but before six months of the date of
such Board meeting. At such meeting of shareholders, the promoter seeking
reclassification and promoters related to him cannot vote. An ordinary
resolution has to be passed by the remaining shareholders approving such
reclassification. Once so approved, the stock exchanges would then consider the
application and if the requirements are duly complied with, approval would be
granted for reclassification.
Thus, the primary onus and even the decision have been placed
on the Board and the shareholders. In principle, the safeguards may appear
warranted. Leaving the matter to internal decisions also ensures avoidance of
an arbitrary decision by the regulator and also smooth implementation in many
cases. However, the elaborate requirements can make ordinary cases for
exclusion difficult. A family member, for example, may move out of India and
yet he would continue to be a promoter and hence in control unless this
procedure is followed.
There may be disputes
within the family and thus persons seeking exclusion may find their efforts
being sabotaged, even if in principle their requests have to be processed. The
10% shareholding requirement is also too low. At 10% holding, a person / group
has practically no say in the running of the company.
In a recent case (in
re: Mirza International Limited, Informal Guidance dated 10th June,
2020) it was seen that a promoter gifted shares aggregating to more
than 10% to his daughters who were married and otherwise not involved with the
company. This made them part of the Promoter Group. An informal guidance of
SEBI was sought whether such persons could be reclassified as public instead of
being included in the promoter / Promoter Group. SEBI opined that the fact that
they held more than 10% shares went against the condition prescribed and hence
they could not be reclassified as public.
CONCLUSION AND SUMMARY
There are several
businesses that have seen multiple generations. The businesses may have been
divided. Off-spring may not be interested in the family-controlled companies.
There may be disputes. There may be members of the family who have no say or even interest in the company. The stringent requirements and procedures are
elaborate and have hurdles which seem unjustified when the primary facts may
show that a person does not have any control or even say in the company.
Indeed, they may not even hold a single share. Thus, many persons may continue to be deemed to be
promoters and bear the burden of liability in matters in which they have no
say. Such persons may not be promoters by choice and have no easy avenue to get
out. It is high time that the requirements are changed to make them simple and
practical; it is hoped that the coming set of proposed revisions ensures this.
