Sebi paper proposes two methods to redefine ‘control’ in companies

Mumbai: The Securities and Exchange Board of India, or Sebi, on Monday suggested two ways to clear ambiguities in the definition of “control” in a listed firm, a move primarily aimed at making mergers and acquisitions smoother and free of legal hassles.

The market regulator proposed in a discussion paper that to make the definition of “control” clearer, one of the options could be to amend the framework of protective rights and exclude certain business decisions by an entity in the listed firm from the ambit of “control” definition.

As the first option, Sebi suggested that rights which do not amount to exercise of “control” may include decisions such as appointment of chairman if he is just a nominee of the investor and does not hold any executive position; appointment of observer who does not have any voting or participation rights; exercising agreements specified by lenders, if such rights are customary to the lending business and the lender has granted the loan strictly on a commercial basis.

Additionally, Sebi said the rights conferred on parties to a commercial pact may not amount to control under the first option if the mutual commercial benefit should flow from both the sides (i.e. the commercial pact should not be one-sided); if the board of the target firm has approved the decision to enter into such an agreement and the target does not have the right to terminate the agreement.

Sebi proposed that veto or affirmative rights in matters that are not part of the ordinary course of business or involve governance issues could also be considered protective in nature and may not amount to exercise of control over the target firm.

Mint on 7 March reported that Sebi is considering a plan to peg M&A control at 25%.

As the second option to make the “control” definition clearer, Sebi proposed to adopting a numerical threshold.

Under this option, Sebi suggested “control” could be defined on the basis of the right or entitlement to exercise certain specified voting rights of a firm, or the right to appoint certain number of directors of a firm.

“In India, the Companies Act recognizes any holding in excess of 25% as the threshold at which special resolutions can be blocked. Further, the threshold for substantial acquisition under the takeover regulations is 25%. It will, thus, be appropriate that 25% may also be specified as the threshold level for trigger of control in Indian listed companies,” the discussion paper read.

Under the second option, Sebi proposed “control” can also be defined on the basis of power to appoint a majority of non-independent directors in a listed firm.

According to the second option under consideration, Sebi said the definition of “control” under the takeover regulations may be amended such that control is defined as the right or entitlement to exercise at least 25% of voting rights of a firm irrespective of whether such holdings give de facto control and/or the right to appoint majority of the non-independent directors of a company.

According to Sebi, assessing whether an entity controls a firm is straightforward in cases where the rights accrue to the entity through its shareholding/voting rights. But in cases of rights accruing through contractual pacts, such assessment becomes complex and requires consideration of facts and circumstances.

“Therefore, the nature of definition of control is based on certain defined principles rather than rule-based,” the paper said.

While referring to certain deals that faced problems due to ambiguities in the definition of control in the past, Sebi said in the existing scenario, it is often possible that multiple regulators may all be applying the test of control from different perspectives and arriving at different results, which, in turn, may lead to ambiguity and confusion in the market.

Sebi has sought public comments till 14 April, on the two proposed options to redefine “control”.