Saturday, February 26, 2011

Scams and Corporate Governance

The various scams afflicting India over the last few months were largely perceived as matters within the realm of public governance involving the Government, ministers and officials. Lately, however, the spotlight seems to be shifting to the private sector and to companies that are alleged to be beneficiaries of public mismanagement of resources. Questions are being asked about the acts and omissions of the corporate sector.

After reading two op-eds today, one by T.N. Ninan in the Business Standard and the other by Shailesh Dobhal in the Financial Express, I cannot help but begin to wonder (at the risk of sounding sensationalistic): Is there another wave of corporate governance crises lurking beneath the surface?

Poison Pill Lives on in Corporate America

(Mihir had earlier highlighted the importance of a recent Delaware Chancery Court decision in the Airgas case.

We now have a post by Karan Singh Tyagi, who succinctly analyzes the impact of the decision under Delaware law and goes to the nub of the issue involving the role of the board of directors of a target that is the subject matter of a hostile bid.

Karan is currently an associate at Gide Loyrette Nouel, Paris. After obtaining his law degree from the Government Law College (Mumbai) in 2009, Karan went on to do his LL.M. from Harvard Law School last year.)
On February 15, 2011, the Delaware Court of Chancery delivered the much-anticipated decision in the year long takeover battle between Air Products & Chemicals, Inc. and Airgas, Inc. Corporate attorneys in the US and shareholder activists around the world were calling it one of the most important law suits in a generation, and rightly so. Almost half of all publicly traded corporations in America, and approximately two third of the companies in the Fortune 500 are registered in the state of Delaware, and the outcome in any Delaware case significantly affects entire corporate America.

In the current case, the legality of the 'poison pill' (shareholders' rights plan), invented in the early 1980s by the preeminent Martin Lipton, was in dispute. Briefly, poison pills are instruments designed to derail hostile bids. The pill works by distributing rights to all shareholders to buy the company's stock at a discounted price. These rights get triggered when a hostile bidder acquires a certain percentage of the company's outstanding stock (15% per cent in the Airgas case). The critical part, however, is that the hostile bidder whose stock acquisition triggers the discounted buying is itself excluded from buying the discounted stock. This results in a substantial dilution of the bidder's stake, which is so great that no rational bidder would want to set off the pill, and go ahead with the bid.

For nearly a year, the Airgas board of directors had relied on its poison pill, to protect itself from the Air Products' hostile offer. Air Products moved the Delaware Court of Chancery for a judicial redemption of the poison pill contending that the pill should be pulled as a matter of shareholder choice. Their argument was that under Delaware law there was no longer any threat to shareholders or the company that justified keeping the poison pill in place, since the current offer of $70 per share was at a substantial premium than the company's prevailing share value.

Despite the fact that Air Products' tender offer had been public for more than a year, during which time Air Products won a proxy contest to place three directors on Airgas's staggered board, and that Airgas stockholders were sophisticated and well-informed, the Court concluded that the Airgas board "acted in good faith and in honest belief" that the $70 per share offer was inadequate, and thus did not breach a fiduciary duty by failing to redeem the company's poison pill.

The court based its reasoning on the threat of 'substantive coercion'- a term coined in an article by Harvard Law School Professor Reinier Kraakman (co-authored with Stanford Law School Professor Ronald Gilson). 'Substantive coercion' essentially means the risk that shareholders will mistakenly accept an underpriced offer because they disbelieve management's representations of the company's intrinsic value.

Nevertheless, the court acknowledged that the poison pill had "served its legitimate purpose" in delaying the consummation of the bid by more than a year, and it had given the shareholders sufficient time to decide whether to tender their shares or not. Chancellor Chandler, who wrote the opinion for the Court, held that he was compelled by controlling Delaware precedent to uphold the poison pill, and suggested that the Delaware Supreme Court should consider modifying the current rule.

Chancellor Chandler's personal views appear to be a nudge to the Delaware Supreme Court to strike a certain balance between the board and the shareholders, which is straying too far in favor of the board under the current Delaware precedent.

Going forward, the Delaware Courts should push for the right balance between the director-centric and the shareholder choice model, especially in cases like the current one where the offer is not structurally coercive, and is all-cash, fully financed, and the stockholders have sufficient time to be completely informed about the offer and the board's business proposal. In such cases, there are strong policy reasons to give shareholders an opportunity to decide for themselves.

More importantly, it should be remembered that the poison pill was widely adopted when the business climate in America was one of 'corporate raiders'. These 'raiders' were essentially looking to buy low through 'front-end loaded and two-tier' tender offers, and looking to sell high. Undoubtedly, these offers could lead some shareholders to sell, even if they were being offered a price less than what they believed their shares were worth. Poison pills in this economic climate served the purpose of enabling the board to act as a bargaining agent for the dispersed shareholders.

However, in the current economic scenario, and especially in the context of the current case, the poison pill has gone far beyond its original purpose. The offer price was $70 for Airgas, whose shares had been trading around $63 per share. After the Court's decision, Airgas shares fell to around $60 per share. Looking through the prism of shareholder value, this appears to be a major loss for the shareholders of Airgas.

Underlying this case was a very fundamental question pertaining to the allocation of power between directors and shareholders. In the words of the Court: "in the context of a hostile tender offer, who gets to decide when and if the corporation is for sale?" In answering this question, the Court solidified the notion that power resides with the board of directors in business-friendly Delaware, and in doing so confirmed corporate America's outlier position in the world in favoring a director-centric model of corporate governance rather than a shareholder choice model. Is this the correct approach? The fact remains, that no would-be buyer has successfully navigated both a poison pill and a staggered board. Also, there is strong empirical research supporting the proposition that vulnerability to a hostile takeover has an important disciplinary effect on corporations. Corporate America can ill-afford to lose out on this disciplinary effect.

- Karan Singh Tyagi

RBI’s Draft Guidelines on CDS

Following its draft report released in August 2010, the Reserve Bank of India (RBI) has issued draft guidelines on credit default swaps (CDSs) for corporate bonds.

One of the principal objectives of this effort is to boost the corporate bond market. As RBI notes:
The objective of introducing Credit Default Swaps (CDS) on corporate bonds is to provide market participants a tool to transfer and manage credit risk in an effective manner through redistribution of risk. CDS as a risk management product offers the participants the ability to hive off credit risk and also to assume credit risk which otherwise may not be possible. Since CDS have benefits like enhancing investment and borrowing opportunities and reducing transaction costs while allowing risk-transfers, such products would increase investors’ interest in corporate bonds and would be beneficial to the development of the corporate bond market in India.

However, CDSs are susceptible to great risk, as the experience from the global financial crisis bears. Cautious of this factor, the RBI has imposed a number of checks and balances on the CDS market. For example, entities that are permitted to buy CDS protection may do so only to hedge against their underlying exposure to corporate bonds. They are not permitted to hold CDSs without appropriate underlying securities. The idea is to curb speculation.
There seem to be opposing concerns regarding the introduction of CDSs as well as the regime governing them. On the one hand, it is felt that the instrument is too risky to be introduced in the markets given the current environment. India’s own experience in dealing OTC derivatives has not been satisfactory, as several transactions had been mired in litigation over the last few years. On the other hand, proponents of CDS as a risk protection mechanism feel that the introduction of such an instrument with numerous restrictions will make it non-palatable to the investing community, thereby rendering it a non-starter. RBI has adopted the path involving some tight-rope walking.

The draft guidelines include some language on risk management and mis-selling:
3.1.6 Risk Management – Role of Board and Senior Management Participants should consider carefully all related risks and rewards before entering into CDS transactions. They should not enter into such transactions unless their management has the ability to understand and manage properly the credit and other risks associated with CDS. They should establish sound risk management policies and procedures integrated into their overall risk management. Participants which are protection buyers should periodically assess the ability of the protection sellers to make the credit event payment as and when they may fall due. The results of such assessments should be used to review the counterparty limits. Participants should be aware of the potential legal risk arising from an unenforceable contract, e.g., due to inadequate documentation, lack of authority for a counterparty to enter into the contract (or to transfer the asset upon occurrence of a credit event), uncertain payment procedure or inability to determine market value when required. They should consult their legal experts on these and other related legal aspects before engaging in CDS transactions.

3.1.10 Prevention of mis-selling and market abuse

Market-makers may ensure adherence to suitability and appropriateness criteria (as stipulated in the circular RBI / 2006 – 2007 / 333 DBOD.No.BP.BC.86 / 21.04.157 / 2006-07, dated April 20, 2007) while dealing with users. From the protection buyer’s side, it would be appropriate that the senior management is involved in transactions to ensure checks and balances. In this connection, following may be ensured by the protection sellers:

a. CDS transactions shall be undertaken only on obtaining from the counterparty, a copy of a resolution passed by their Board of Directors, authorising the counterparty to transact in CDS.

b. The product terms are transparent and clearly explained to the counterparties along with risks involved. 
The above protective mechanisms seem to be a direct fall-out of the OTC derivatives litigation in India involving banks and corporates. Please see here and here for a flavor of the issues that arose in the litigation.

Tuesday, February 22, 2011

Corporate Law Scholarship in India

Bar & Bench has a report about the inauguration of the Joint Centre on Global Corporate & Financial Law and Policy by the Jindal Global Law School and the University of Michigan Law School.

Such efforts are encouraging in that they promote research and scholarship in the area of corporate and business law in India. Although the practice of corporate and business law in India has witnessed sea-change in the last two decades, it is essential that such change is replicated from the academic and policy perspectives as well.

Restrictions on Outbound Acquisitions

Although outbound acquisitions by Indian companies have increased significantly in recent years, there is a concern that domestic Indian laws governing the acquirers are yet to keep up to speed with developments in the business arena. Recognising this concern, the Confederation of Indian Industry (CII) has submitted a memorandum to the Department of Industrial Policy and Promotion, Government of India listing various factors that restrict the framework for overseas acquisitions by Indian companies. This CII News Update contains a useful summary of the issues highlighted. These include:
- Lengthy court-driven process for amalgamations in India;

- Inability of an Indian company to amalgamate with a foreign company (as the current provisions under Sections 391-394 only permit a foreign company to amalgamate with an Indian company);

- Shareholder approval requirements under Section 372A of the Companies Act for investments exceeding 60% of net worth or 100% of free reserves of the acquirer;

- Prohibition on multi-level subsidiaries that is currently being discussed in the context of the new Companies Bill;

- Difficulties in using acquirer’s shares as currency for acquisition (due to restrictions on stock-swap transactions) – although a DIPP discussion paper considers proposals to alleviate this concern going forward;

- Restrictions in the proposed merger control regime under the Competition Act, 2002;

- Restrictions imposed by RBI on the amount of cash that can be used for acquisitions (currently pegged at 400% of the acquirer’s net worth).
Added to this is the unavailability of a dual listing regime for Indian companies, which restricts large overseas acquisitions. The failure of the Bharti-MTN transactions has partly been attributed to this.

While there have been a number of changes in the last few years that have facilitated overseas acquisitions by Indian companies, the above list suggests that a number of hurdles continue to exist. There is a need for streamlining the regime for such acquisitions through a holistic approach rather than a fragmented application of various diverse legal provisions to outbound acquisitions.

For a general discussion of the legal and other factors governing outbound acquisitions by Indian companies, please see this paper by Afra Afsharipour.

Saturday, February 19, 2011

Legislating CSR

(The following post has been contributed by Satvik Varma, who is an Advocate and Corporate Counsel based in New Delhi. He holds an LL.M. from Harvard Law School and is licensed to practice in India and in New York. He can be contacted at
Enclosed below is the link to my latest article titled "Coercive Social Responsibility" published in the Economic Times. This article analyses the mandatory CSR spend being proposed in The Companies Bill 2009 and questions whether any kind of social responsibility can be enforced with an iron hand.

I would like to highlight that the Ministry of Corporate Affairs, along with the National Foundation for Corporate Governance, had organised an "Interactive Session With Corporate India" in New Delhi yesterday. This session was chaired by Cabinet Minister Murli Deora, along with Minister for State RPN Singh and D K Mittal, Secretary Corporate Affairs, was leading the discussion. I was present at this session, which was attended by all the Industry Chambers and also had select practitioners.

The hand out from the session included 2 broad categories under which the discussion was divided.

A. Comprehensive Revision of the Companies Act, 1956; and

B. Convergence of Indian Accounting Standard with International Reporting Standards.

Under the category of Comprehensive Revision of the Companies Act, 1956, the issues highlighted for discussion were:
"1. Keeping in view the developments taking place nationally as well as internationally and with a view to modernize the structure for corporate regulation in India and represent a major reform statement by the Government to promote the development of the Indian corporate sector through enlightened regulation, a decision was taken to revise the existing Companies Act, 1956 comprehensively.

2. Accordingly, the Companies Bill, 2009 was introduced in the Lok Sabha on 3rd August, 2009 and was referred to Hon'ble Parliamentary Standing Committee on Finance for examination and report. The Hon'ble Committee consulted various Experts and stakeholders on the provisions of the Bill and received a large number of suggestions. The Committee also heard the Ministry of Corporate Affairs on a number of occasions.

3. After examination of such suggestions and consultation with various stakeholders, the Committee submitted its Report to the Parliament on 31st August, 2010.

4 . Subsequent to the submission of the Report by the Parliamentary Committee, some of the Industry Chambers and Experts have drawn attention towards some of the issues like:-
· Norms (Numbers/Attributes/Tenure/Liability/Renumeration) relating to Independent Directors

· Rotation of auditors/audit firms

· Corporate Social Responsibility

· Restrictions on Layers of Subsidiaries

· Issues of Equity Shares with Differential Voting Rights

· Number of maximum directorships

· Managerial remuneration limits
5. Various recommendations made by Hon'ble Committee in its Report and the view of the Stakeholders thereof are under examination in the Ministry. The revised Bill is proposed to be introduced in the Parliament in the ensuing Budget Session. The intention is to move forward and bring the long pending legislative reforms on the comprehensive revisions of the Companies Act, 1956. This interaction will give useful inputs to take a decision on various matters relating to the Companies Bill".
With particular reference to the Corporate Social Responsibility, the pointed question from D K Mittal, Secretary Corporate Affairs was whether CSR is a good business proposition? The unequivocal response from across the participants was that CSR makes good business sense, but based on the responses it was clear that there exists ambiguity on what constitutes CSR and a lot of the delegates still seem to confuse CSR with charity or philanthropy. The consensus from the delegates was that CSR is desirable and should be encouraged but doubts were expressed on whether it is wise to mandate an arithmetical spend. Concerns were also voiced that more needs to be done to incentivise CSR and create greater awareness about it. Some participants also expressed concern that nothing should be done which will make CSR a check-the-box provision and results in being counter productive to what is hoped to be achieved.

- Satvik Varma

National Conference on the Indian Constitution

(The following announcement may be of interest to some of our readers)
School of Law, Christ University is organizing a two day National Conference on the “INDIAN CONSTITUTION IN THE 21ST CENTURY: A CONCEPTUAL AND CONTEXUAL AUDIT" to be held on the 24th and 25th of February, 2011. The Conference is broadly structured around four themes namely:
- Reframing the Constitution: Is it really a need of the hour?

- National Security and Constitutional Challenges

- Development and Constitutional Challenges

- Challenges to the Functions of the Organs of the State
The Conference brings a unique opportunity to share and explore new ideas, concerns and suggestions among academicians, practitioner, policy makers and students. So far the conference has received an overwhelming response in that there are over fifty papers that are expected to be presented on the conference days.

Programme Details:

The first day of the conference will see participation of eminent jurists, academicians and practitioners such as Justice Santosh Hedge, Former Judge, Supreme Court of India, Justice P.P. Naolekar, Former Judge, Supreme Court of India, Prof. V.S. Mallar, Chair Professor (M.K.Nambiar Chair on Constitutional Law) at NLSIU, Mr. Uday Holla, Senior Advocate, Supreme Court of India and Mr. Aditya Sondhi, Advocate, Supreme Court of India.

The second day of the conference will see presentations by several academicians and students across the country. Leading scholars working in this domain will be moderating each of the sessions on the second day.


Practitioners, academicians, policy makers and students are invited to register as delegates. The conference brochure is available at Further details will be made available on request. Interested readers can contact the Conference Organizing Committee at

Exclusion of Jurisdiction of Civil Courts under the SEBI Act

Legally India has made available certain expert witness statements filed before US Courts in the class action litigation concerning Satyam, which was recently settled. One of the witness statements, by Mr. Sandeep Parekh, makes an interesting point; but I am not entirely sure of the tenability in law of that point. Mr. Parekh’s declaration / statement as an expert witness is available here. I am concerned in this post particularly with the claim made by Mr. Parekh in para 11(a) of his statement: “Private parties have no right to sue to recover damages resulting from the Satyam fraud under Indian statutory or common law because the Indian civil courts have no power to hear disputes where, as in this case, SEBI is empowered to act.” Essentially, this means that a private party cannot maintain a suit in tort in respect of the “Satyam fraud”. Mr. Parekh’s reasoning is effectively based on the bar on jurisdiction in Section 15Y and Section 20A of the SEBI Act. He also places reliance on a Bombay High Court judgment in support of this proposition. With great respect, it is submitted that none of these reasons are strong enough to support Mr. Parekh’s conclusion.

Section 15Y says:
No civil court shall have jurisdiction to entertain any suit or proceeding in respect of any matter which an adjudicating officer appointed under this Act or a Securities Appellate Tribunal constituted under this Act is empowered by or under this Act to determine and no injunction shall be granted by any court or other authority in respect of any action taken or to be taken in pursuance of any power conferred by or under this Act.

The key phrases here are, (a) “no court shall have jurisdiction” (b) “to entertain any suit or proceeding” (c) “in respect of any matter which an adjudicating officer appointed under this Act… is empowered by or under this Act to determine.” The issue turns on the scope of (c) above. Are tort claims within the scope of “any matter” which an adjudicating officer or SAT is entitled to determine? In my submission, no. The adjudicating officer is entitled to examine violations of the Act; he has no powers to determine any tortuous liability whatsoever. The same facts which give rise to a statutory violation may very well also constitute a tort claim – this does not mean that the adjudicating officer has jurisdiction to hear and decide the tort claim as well as the statutory violation.

To get over this reasoning, Mr. Parekh relies on the judgment of the Bombay High Court in Kesha Appliances v. Royal Holdings Services Ltd. He relies specifically on this sentence: “The contention of the learned counsel for the plaintiff that there was a pre-existing common law right under section 9 of the CPC and that pre-existing common law right is not taken away by the provisions of sections 15Y and 20A also cannot be accepted.” In Kesha, however, the right in question was a right of rectification. The very next sentence in the judgment says, “It is because the common law right of rectification which is sought to be enforced and exercised by the plaintiff in the present case arises out of the right conferred on the basis of Take Over Regulations and once the provisions of the Take Over Regulations are invoked then the entire jurisdiction by virtue of the provisions of Section 15Y and 20A is exclusively conferred on the SEBI authorities.” 

The right to maintain an action in deceit or in negligence does not arise out of any provision in the SEBI Act. In Kesha Appliances, the case of the plaintiff was that certain preference share allotments to one defendant by another defendant were violative of Regulation 12 of the Takeover Regulations and hence illegal. Accordingly, the plaintiff sought for rectification. Thus, the actual right which the plaintiff was exercising was a right arising out of statute/regulation – in other words, the statutory violation was an essential basis for challenging the allotment and seeking for rectification. 

The case with a tort situation is in my submission completely different. The Kesha judgment itself clarifies, “Though it is not necessary still I feel it is important to clarify that when the rectification of the share register is dehors the provisions of the Takeover Regulations or any other provisions of the SEBI Act and rules and regulations made thereunder then the court would certainly have jurisdiction to entertain and try such a suit under Section 9 of the CPC. It is because what is barred under section 15Y and 20A is only those acts which falls either under the said Act or under the regulations framed thereunder.” The reason why in Kesha it was ultimately held that there is a bar on jurisdiction is this: “the entire suit is based on the sole ground of violation and/or breach of the Take Over Regulation and no other ground has been invoked for rectification of the Share Register.

In one of the footnotes to his statement, Mr. Parekh also relies on the decision of the Delhi High Court in M.R. Goyal v. Usha International. In that decision, too, it was found that “on the basis of the averments made in the plaint and the contents of the application, it is apparent that the main thrust of the case of the plaintiffs is that the impugned notice issued by defendant No. 1 is in violation of the guidelines issued by the Sebi Act and the rules and regulations framed thereunder.

In my view, these decisions are clearly distinguishable from a case where the cause of action is not a statutory/regulatory violation but a tort. If at all, clarificatory observations in Kesha support the proposition that a tort claim can be decided in civil courts notwithstanding the SEBI Act bar on jurisdiction.

Mr. Parekh then highlights the fact that any penalties collected by SEBI would go to the SEBI and not to shareholders of Satyam. This is eminently logical if the shareholders are entitled to a remedy in tort. Thus, the fact that penalties would go to the SEBI would – if at all relevant – tend to support the argument that civil claims are not barred.

It is submitted that, with great respect, a legally untenable result will be reached if one says that the SEBI Act bars a suit in tort in the circumstances. 

Thursday, February 17, 2011

Developments in Delaware: poison pill upheld

Readers may find this decision of the Delaware Court of Chancery, Air Products v. Airgas (judgment dated 15th February, 2011) interesting. The Court has discussed in detail the (Delaware) law on the legality of the ‘poison pill’. The Court summarised its ruling thus:

This case poses the following fundamental question: Can a board of directors, acting in good faith and with a reasonable factual basis for its decision, when faced with a structurally non-coercive, all-cash, fully financed tender offer directed to the stockholders of the corporation, keep a poison pill in place so as to prevent the stockholders from making their own decision about whether they want to tender their shares—even after the incumbent board has lost one election contest, a full year has gone by since the offer was first made public, and the stockholders are fully informed as to the target board’s views on the inadequacy of the offer? If so, does that effectively mean that a board can just say never to a hostile tender offer? The answer to the latter question is “no.” A board cannot “just say no” to a tender offer. Under Delaware law, it must first pass through two prongs of exacting judicial scrutiny by a judge who will evaluate the actions taken by, and the motives of, the board. Only a board of directors found to be acting in good faith, after reasonable investigation and reliance on the advice of outside advisors, which articulates and convinces the Court that a hostile tender offer poses a legitimate threat to the corporate enterprise, may address that perceived threat by blocking the tender offer and forcing the bidder to elect a board majority that supports its bid…

The Court applied the Unocal standard of review, but held on the facts of the case that the target board had satisfied that standard. The Unocal standard requires (a) that the target board must “articulate a legally cognizable threat”, and (b) that the proposed action in response of that threat must be reasonable. This might seem a somewhat heavy burden, but the burden is to some extent mitigated because factor (a) can be satisfied by demonstrating good faith and reasonable investigation. Thus, the Court’s review on factor (a) is a process-based review. On the other hand, insofar as factor (b) is concerned, the Court’s review of the target board’s actions does not stop with looking at the process followed, but is actually a substance-based review. In other words, the correctness of not only the procedure but also the outcome would have to be determined. To this extent, the standard is stricter than the traditional business-judgment rule otherwise followed.

A discussion can be found on the Delaware Corporate and Commercial Litigation blog here and on the Wall Street Journal Law blog here.

Sunday, February 13, 2011

Subsistence Allowance during Adjudication

The Industrial Disputes Act, 1947 [“IDA”], provides for an elaborate system of adjudication of disputes between employers and workmen, and litigation over “subsistence allowance” is by no means uncommon, not only for tactical reasons, but also because it is often the only means of survival for an employee facing disciplinary proceedings. In this context, a single judge of the Bombay High Court has advanced an interesting proposition of law, in a careful judgment delivered a few weeks ago in Mumbai Cricket Association v Shinde.

Mr. Shinde had been employed as a typist by the MCA, and was chargesheeted under the Model Standing Orders for accepting an illegal gratification. Following an inquiry, the charges were found proved, and he was dismissed on 25 November, 2002. Mr. Shinde sought and obtained a reference from the appropriate Government, and challenged his dismissal before the Labour Court. As is well known, the dispute resolution mechanism in s. 10 of the IDA is activated only upon a reference by the appropriate Government. The Labour Court found that the inquiry was “perverse” but gave the employer an opportunity to prove the charges in court by adducing evidence. Again, this practice is widely followed in industrial adjudication to avoid unnecessary delay in remitting the case back for an inquiry, following which there is inevitably another reference to the Court on the same facts. At this stage, Mr. Shinde sought an order for “subsistence allowance” in accordance with s. 10A of the Industrial Employment (Standing Orders) Act 1946 [“IESO”], which provides that an employer is obliged to pay the employee a specified percentage of his wages during his suspension and pending the result of the inquiry.

The obvious difficulty Mr. Shinde faced was that the order of the Labour Court permitting the employer to prove the charges was technically not an “inquiry” and he could not be said have been “suspended”, since the order of dismissal had not formally been set aside. Nevertheless, the Labour Court took the view that this was akin to an inquiry, that “equity” demanded the payment of subsistence allowance and so ordered. The question of law before the single judge was whether this is a correct construction of the IDA and the IESA.

It is convenient to begin by setting out the operative part of s. 10A IESA:

10-A. Payment of subsistence allowance.-(1) Where any workman is suspended by the employer pending investigation or inquiry into complaints or charges of misconduct against him, the employer shall pay to such workman subsistence allowance…

Dharmadhikari J., for two reasons, held that this provision is irrelevant in circumstances where the Labour court directs the employer to prove the charges of a “perverse” inquiry in court. First, there is authority for the proposition that the order of dismissal is not set aside by the direction of the Labour court to adduce fresh evidence – indeed, if the Labour court affirms the dismissal on appreciating evidence, the order “relates back” to the date of dismissal. If this is true, it must inevitably follow that s. 10A is unavailable, because the workman cannot on any view be “suspended” when his “dismissal” order is effective, albeit in abeyance. To support this proposition, Dharmadhikari J. turned to the decision in Engineering Laghu v Labour Court, AIR 2004 SC 4951, where the Supreme Court had held that the dismissal order remains valid “until it is set aside” and therefore, if confirmed, must be given effect not from the date of the judgment, but from the date of the passing of the dismissal order. It was argued in that case that there is a distinction at any rate between cases where an employee is dismissed without an inquiry, and those where dismissal follows an inquiry that is found to be defective. The contention was that the dismissal is “void” in the first case, and therefore takes effect only from the date of judgment. Krishna Iyer J. had accepted this view but was overruled in Engineering Laghu, because of settled authority that the doctrine of relating back applies in both cases. Dharmadhikari J. therefore rightly observed that:

The order of dismissal remains and is not set aside. If upheld by the Court, it will be after the order of the Court in that behalf. However, it relates back to the date of punishment. If what is postponed is its coming into effect or operation, then, the argument of Mr. Pathak that it is held in abeyance must be straightway rejected. His argument would render doctrine of relation back completely nugatory

The second reason is as compelling – even on the assumption that the employee may be said to be “suspended” for the purposes of s. 10A, it must still be established that he is suspended “pending investigation or inquiry into complaints or charges of misconduct…” The fact that the Labour Court, when no inquiry has been conducted, is entitled to hear all the evidence and make findings of fact and law, cannot elide an “inquiry or investigation” and an adjudication. As Dharmadhikari J. noted,

The employee sought a reference from the Appropriate Government and that is how the matter of his dismissal is referred to the Labour Court and that is how the Court is seized of the matter. The Court cannot be equated with an employer as it is only performing a judicial function of giving an opportunity to the petitioner to adduce evidence to prove charges of misconduct before it, and that is because the law postulates such an opportunity. The law does not equate this situation with suspension by the employer pending domestic enquiry or investigation into any complaints [emphasis mine].

The final argument advanced was that the Court is nevertheless entitled to award subsistence allowance as a matter of “justice, equity and good conscience” bearing in mind the impecunious condition of the employee and his stated inability to sustain himself during the pendency of the proceedings. Dharmadhikari J. emphatically rejected this contention, observing that the Labour court is not empowered to grant subsistence allowance “on specious grounds of equity and justice,” and that writ jurisdiction under Art. 226 of the Constitution cannot be exercised “contrary to law”. “Ultimately, equity and justice require that legal principles are adhered to and not given a go-by completely.” There was some doubt over whether this was contrary to the decision of a Division Bench of the Bombay High Court in Air India, but Dharmadhikari J. held that it was not, because that case was decided under s. 33 IDA, not s. 10. Since, however, the observations of the Division Bench were broad in that case, it remains to be seen whether the single judge’s view will be affirmed.

In sum, it is submitted that Dharmadhikari J.’s conclusion is plainly correct as a matter of statutory interpretation – indeed, it would be odd to accept the proposition that a dismissed employee is also a “suspended” employee, and that adjudication of the legality of dismissal is in fact an “investigation or inquiry” to ascertain whether dismissal is appropriate. That does not, of course, mean that this is a desirable state of affairs, but if the view is taken that the benefit of subsistence allowance must extend to confirmatory proceedings in the Labour Court, that is perhaps best left to the legislature.

Hat-tip: Mihir Naniwadekar

Saturday, February 12, 2011

Supreme Court on Tainted Securities

In Varghese Joseph v The Custodian, the Supreme Court was called on to clarify the approach to be adopted in relation to tainted securities under the Special Court (Trial of Offences relating to Transactions in Securities) Act, 1992. Although there is not much by way of company law principles of even statutory interpretation to be gleaned from the decision, it is of importance due to the investor friendly approach the Court appears to have adopted.

The appellant was a small investor who had purchased 100 equity shares of Reliance Industries Ltd through a broker. He was living abroad, and despite repeated inquiries, was not told of the status of his shares by his broker. When he made a demand with Reliance for dividend and other consequential benefits like issue of rights and bonus on shares, he was informed that his shares were tainted, and hence he was not eligible for those benefits. When he made further inquiries, he was informed by the share broker that a notice had been sent to him for applying for the certification of the shares, which were tainted by virtue of being in the name of a company which subsequently had become the subject matter of attachment as per the order of the Government of India since it was found to be involved in some scam. As a result, the shares issued by this company required certification by the Custodian. The appellant contended that he had not received this letter. When he attempted to procure the necessary certification from the Special Court, he was informed that the last date for the application had expired, and no certification was now permissible. He challenged this on the ground that he was not aware of this cut-off date, but his challenge was rejected as being without merit. Reversing the decision of the lower Courts, the Supreme held upheld the shareholder’s plea. It observes that the Act should be interpreted in a way “that an honest and bonafide investor is not duped of his hard earned money which he invests by purchasing the equity shares of a company”.


It was obligatory on the part of the Special Court and the Custodian to notice an important fact that when the shares purchased by the appellant were reported to be tainted which was issued through Respondent No.5-M/s. Fair Growth Company by the share broker companies i.e. Respondent No. 4 and 5 and the same was ordered to be attached by the Custodian in view of the Government of India Regulation it was clearly nefarious and dubious activity on the part of the Respondent No.5-M/s. Fair Growth Financial Service Ltd. due to which the unnecessary hassle of certification of the shares issued in the name of M/s. Fair Growth Company became essential. The investors like the appellant herein had absolutely no role in such activity and hence even if the cut off date was fixed by the Special Court for certification of such shares, the same could not have been enforced oblivious of its repercussion on those investors who could not approach the Special Court for certification for reasons beyond their control.

The delay here was of a mere two months and “the Court should have certainly considered the circumstance whether a bonafide purchaser of shares could be denied his due merely on the ground of violation of a cut off date which clearly did not have its existence in the statute and hence had no statutory force”.

Friday, February 11, 2011

MCA grants exemption from attaching subsidiary accounts

Section 212 of the Companies Act, 1956 requires holding companies to attach with its balance sheet, a copy of the balance sheet, profit and loss account etc., of each of its subsidiaries. In recent years, with the globalization of the Indian economy, there has been a large increase in the number of holding companies and subsidiaries. Accounting policies and practices have also evolved, and Accounting Standards have been issued regarding preparation of consolidated financial statements.

The Ministry of Corporate Affairs has been receiving a large number of applications seeking exemption from attaching the accounts of subsidiaries. The Ministry has been granting such permission in certain cases on the basis of certain conditions which are intended to protect the interests of investors. The Ministry has carefully re-examined the matter in the context of the emerging trends in the economy and regulatory and accounting practices and has decided that the permission may be granted on a general basis wherever the Board of Directors of the holding company gives its consent and the conditions prescribed are complied with. Accordingly, the Ministry has issued directions through General Circular No. 2/2011 for this purpose.
The conditions to be met by the companies to avail the exemption are set out below:-

(i) The Board of directors of the company has by resolution given consent for not attaching the balance sheet of the subsidiary concerned;

(ii) The company shall present in the annual report, the consolidated financial statements of holding company and all subsidiaries duly audited by its statutory auditors;

(iii) The consolidated financial statement shall be prepared in strict compliance with applicable Accounting Standards and, where applicable, Listing Agreement as prescribed by the Security and Exchange Board of India;

(iv) The company shall disclose in the consolidated balance sheet, the following information in aggregate, for each subsidiary including subsidiaries of subsidiaries: (a) capital (b) reserves (c) total assets (d) total liabilities (e) details of investment (except in case of investment in the subsidiaries) (f) turnover (g) profit before taxation (h) provision for taxation (i) profit after taxation (j) proposed dividend;

(v) The holding company shall undertake in its annual report that annual accounts of the subsidiary companies and the related detailed information shall be made available to shareholders of the holding and subsidiary companies seeking such information at any point of time. The annual accounts of the subsidiary companies shall also be kept open for inspection by any shareholders in the head office of the holding company and of the subsidiary companies concerned and a note to the above effect will be included in the annual report of the holding company. The holding company shall furnish a hard copy of details of accounts of subsidiaries to any shareholder on demand;

(vi) The holding as well as subsidiary companies in question shall regularly file such data to the various regulatory and Government authorities as may be required by them;

(vii) The company shall give Indian rupee equivalent of the figures given in foreign currency appearing in the accounts of the subsidiary companies along with exchange rate as on closing day of the financial year.

(Many thanks to my esteemed colleague, Sabyasachi Chatterjee, for spotting this development!)

Thursday, February 10, 2011

Supreme Court on Section 394: Sesa v. Krishna Bajaj

The Supreme Court of India recently revisited the law on schemes of amalgamation under Sections 391-394 of the Companies Act, 1956 in Sesa Industries v. Krishna Bajaj. The Supreme Court was concerned with a set of appeals by special leave from the judgment of a Division Bench of the Bombay High Court at Panaji. The Division Bench had set aside a judgment of a Single (Company) Judge sanctioning a proposed scheme of amalgamation between the appellant, Sesa Industries Limited (“SIL” or “Appellant”), and another company, Sesa Goa Limited (“SGL”).

The facts in brief were that on 26th July, 2005, the Board of SIL passed a resolution seeking to amalgamate SIL with SGL. Subsequently, SIL and SGL filed company applications in the Bombay High Court seeking permission for convening a general body meeting for the purpose. Krishna Bajaj (“Krishna Bajaj”), holder of 0.29% of the shares in SIL, intervened in these petitions objecting to the amalgamation. He relied on an inspection report under Section 209A of the Companies Act, 1956, where some alleged malpractices, including siphoning of funds, were highlighted. The Single Judge rejected the objections, and allowed SIL and SGL to convene a general body meeting. The Judge also directed a disclosure to be made to the meeting in respect of the Inspection Report.

Following this, a general body meeting was held, and 99% of the shareholders consented to the scheme. SIL and SGL approached the High Court for sanctioning of the scheme. The Registrar of Companies, Goa, filed an affidavit stating that he had no objections, subject to the fact that the scheme should not result in any dilution of legal action on the basis of the Inspection Report. The Official Liquidator (“OL”) also filed a Report [(as required under the second Proviso to Section 394(1)] that the affairs of the company were not being carried out prejudicial to the interest of the members/public. This report was attacked by the objector to the scheme as being vitiated because of non-application of mind.

By a judgment dated 18th December, 2008, the Company Judge sanctioned the scheme of amalgamation between SGL and SIL. In his decision, he gave detailed reasons after appreciation of the facts as to why the objections were being rejected. This decision was reversed by a Division Bench, inter alia on the grounds that a scheme should not be sanctioned when there was a pending investigation u/s 209A. Further, the Court stated that there was no affidavit by the Registrar that the affairs of the company were not being carried out in a manner prejudicial to the interests of the members/public; and consequently, the first Proviso to Section 394(1) was not complied with. It held that the OL’s report was vitiated, and consequently the second Proviso was not complied with either.

Before the Supreme Court, it was urged by the Appellants that the first Proviso to Section 394(1) applied only to the amalgamation of a company which was being wound up, and not to cases where the prayer in the amalgamation petition was for “dissolution without winding up”. Further, the existence of an investigation report u/s 209A or the pendency of an investigation u/s 235 was not sufficient grounds for refusing to sanction a scheme which was approved by the general body. Contrary to this, the Respondents urged that Chapter V of Part VI of the Act was intended to introduce “a system of checks and balances to promote the interests of shareholders, creditors and society at large so as to promote a healthy corporate governance culture, and the Courts should adopt an interpretation that advances this object.” After discussing these contentions in light of earlier cases including Miheer Mafatlal, the Supreme Court observed:

… while it is trite to say that the court called upon to sanction a scheme of amalgamation would not act as a court of appeal and sit in judgment over the informed view of the concerned parties to the scheme, as the same is best left to the corporate and commercial wisdom of the parties concerned, yet it is clearly discernible from a conjoint reading of the aforesaid provisions that the Court before whom the scheme is placed, is not expected to put its seal of approval on the scheme merely because the majority of the shareholders have voted in favour of the scheme. Since the scheme which gets sanctioned by the court would be binding on the dissenting minority shareholders or creditors, the court is obliged to examine the scheme in its proper perspective together with its various manifestations and ramifications with a view to finding out whether the scheme is fair, just and reasonable to the concerned members and is not contrary to any law or public policy… the Court has to see that the provisions of the Act have been duly complied with; the statutory majority has been acting bona fide and in good faith and are not coercing the minority in order to promote any interest adverse to that of the latter comprising the same class whom they purport to represent and the scheme as a whole is just, fair and reasonable from the point of view of a prudent and reasonable businessman taking a commercial decision.

Subsequently, the Supreme Court confirmed the finding that the OL’s report was vitiated. However, the Supreme Court then considered the issue of whether a lapse by the OL would be sufficient to refuse to sanction a scheme. This – the Court held – was a matter which was to be seen by the Company Judge. The Court refused to lay down an absolute rule that the vitiation of the OL’s report u/s 394(1) would result in vitiation of a scheme of amalgamation. It held, “We are of the view that it will neither be proper nor feasible to lay down absolute parameters in this behalf. The effect of misdemeanour on the part of the official liquidator on the scheme as such would depend on the facts obtaining in each case and ordinarily the Company Judge should be the final arbiter on that issue. In the instant case, indubitably, the findings in the report under Section 209A of the Act were placed before the Company Judge, and he had considered the same while sanctioning the scheme of amalgamation. Therefore, in the facts and circumstances of the present case, the Company Judge had, before him, all material facts which had a direct bearing on the sanction of the amalgamation scheme, despite the aforestated lapse on the part of the Official Liquidator…

On this basis, the Court allowed the appeal, and the order of the Single Judge sanctioning the scheme was restored.

One question which arises from this decision is – assuming that the OL had in fact properly applied his mind and had given an unfavourable report, would it still be open to the Court to reject that report by re-considering the relevant facts? There can certainly be instances where two reasonable persons (say, the OL and the Company Judge) can come to different views on the same set of facts. The decision of the Supreme Court suggests that it is open to the Company Judge to carry out a de novo review of the facts. Unless this were so, on what basis could the Court have sanctioned the scheme despite holding that the OL’s report was vitiated? And if the Company Judge can carry out a de novo review when the report is vitiated, why can he not carry out a de novo review in each case? What principle would bar the Judge from exercising such powers in all cases?

The second Proviso requires the existence of a report by the OL (“no order… shall be made… unless the Official Liquidator… made a report”) – in this case, admittedly, the report was vitiated. Certainly, the ‘report’ contemplated under the Proviso would not include a vitiated report. Thus, in the facts of the case, it must be held that there was no report at all. The decision of the Court appears to have the impact of treating the OL’s report as directory, and instead giving complete discretion in this regard to the Company Judge. Such a reading does not appear to fit in with the language of the second Proviso. With respect, perhaps the better course in such cases would be to require the OL to prepare a fresh report to rectify the infirmities in the original report.

Wednesday, February 9, 2011

Managerial Remuneration in Unlisted Companies: Process Eased

When the rest of the world is tightening the screws on payment of managerial remuneration in the wake of the financial crisis, the Ministry of Corporate Affairs (MCA) in India has eased the process for such payments in the case of unlisted companies. However, this is certainly understandable. The erstwhile process of requiring even unlisted public companies to approach the MCA for payment of managerial remuneration was criticized as being unduly onerous and inefficient on businesses. Moreover, questions arose as to whether the Government was the appropriate entity to determine compensation of managers, and whether the machinery was adequate to handle the flood of applications. In terms of overseeing payments to managers, there is no public shareholding in unlisted companies thereby attenuating the classic agency problem in corporate governance between managers and shareholders.

The MCA appears to have identified these issues, and rightly so, in removing the obstacle of requiring Government approval for public unlisted companies. A copy of the notification available on the Press Information Bureau website, is set out below:
Schedul Xiii of the Companies Act 1956 Being Amended- Unlisted Companies Shall not Require Government Approval for Managerial Remuneration Where they have no Profits

The Ministry of Corporate Affairs issued today a notification on Managerial Remuneration in unlisted companies having no profits/inadequate profits. The notification reads as under:

Managerial Remuneration in unlisted companies having no profits/ inadequate profits

Companies are divided into private limited and public limited companies. Public limited companies are of two types – listed companies (whose shares are listed on a stock exchange) and unlisted companies. Normally, the general public does not hold shares in unlisted companies. Private limited companies are not subject to any limits on managerial remuneration. Public limited companies (listed and unlisted) with no profits/ inadequate profits are currently required to approach the Ministry for approval in those cases where the remuneration of Directors/ equivalent managerial personnel exceeds certain limits.

2. The matter has been re-examined in the light of the evolving economic and regulatory environment. The primary purpose of regulations over managerial remuneration is to protect stakeholders, particularly shareholders and creditors. Unlisted companies are in several respects similar to private limited companies. A substantial number of the applications coming to the Ministry fall under this category and the Ministry’s limited manpower is disproportionately involved in this exercise. In the case of unlisted companies so long as the conditions specified in Schedule XIII, including special resolution of shareholders and absence of default on payment to creditors, are fulfilled approval will not be needed hereafter.

3. Accordingly, Schedule XIII of the Companies Act 1956 is being amended to provide that unlisted companies (which are not subsidiaries of listed companies) shall not require Government approval for managerial remuneration in cases where they have no profits/ inadequate profits, provided they meet the other conditions stipulated in the Schedule.

Tuesday, February 8, 2011

The Concept of an “Interested” Shareholder

Yesterday’s board meeting at SEBI was not expected to generate any substantial decision owing to the impending change of guard at the regulatory institution. True to expectations, key matters such as amendment to the Takeover Regulations and implementation of the Jalan committee report on stock exchanges and other market infrastructure institutions were deferred. However, SEBI expressed its policy stance on a significant matter, which, if accepted, will denote a paradigm shift in Indian corporate jurisprudence.

The relevant paragraph of the press release of SEBI’s board meeting is as follows:
4. Recommendation to MCA on related party transactions:

SEBI will recommend to the Ministry of Corporate Affairs to suitably amend Clause 166 of the Companies Bill, 2009 to disallow interested shareholders from voting on the special resolution of the prescribed related party transaction. This will protect small and diversified shareholders in listed companies from abusive related party transactions. This view was taken based on the learning from the investigation in the matter of Satyam Computer Services Limited.
Following the Satyam episode, numerous recommendations were made for strengthening the regime governing “related party transactions” (RPTs), particularly in listed companies. This is not surprising given the corporate structure of Indian companies, where group holding structures, pyramiding and tunneling are commonplace with significant influence wielded by controlling shareholders (or promoters). Given such structures, RPTs are inevitable.

However, the current legal regime appears to focus almost entirely on disclosure of RPTs. For example, there is great emphasis on disclosure of related party transactions in financial statements of companies, and most of the detail regarding disclosures is governed by the relevant accounting standards. There is little prohibition or restriction on the ability of companies to carry out RPTs. Moreover, there are arguably inherent deficiencies in current law being able to capture RPTs, and particularly with controlling shareholders. First, controlling shareholders are not subject to conflicts of interest. Unlike directors, company law allows controlling shareholders to vote on resolutions even in situations involving conflicts. Second, company law does not foist controlling shareholders with duties (such as fiduciary duties). In that sense, they can exercise their voting powers in their own interests rather than in the interest of the company, as they are not in any fiduciary capacity.

SEBI’s proposal in yesterday’s board meeting seeks to address the first issue above, i.e. to impose conflict of interest on shareholders. This is a welcome move because it addresses the realities of Indian corporate ownership structures where RPTs are rampant. In the post-Satyam scenario, the issue of RPTs has perhaps received less attention than it deserves. Spotlight has been thrown on other matters of corporate governance such as board independence, and role and liability of auditors. The proposals have arguably resulted in a scenario by which, if the recommendations of the Task Force are accepted, there would be regulatory micromanagement of corporate boards in India. SEBI’s current proposal does well to renew the focus back to the issue of RPTs.

Of course, like any legislative proposal, the devil lies in the detail. Questions will arise as to how to define an “interested shareholder”, “related party transactions” and whether there should be thresholds of materiality, and the like. If the proposal is accepted, these issues will have to be carefully framed and legislated.

Curiously enough, the impetus for introducing the concept of an “interested” shareholder has emanated from SEBI (as the securities regulator) rather than at the legislative level (involving company lawmakers). SEBI’s efforts have been consistent even in past practice where it required interested shareholders to abstain from voting: e.g. when it granted certain exemptions under the Takeover Regulations, when it issued the Delisting Guidelines (which require 2/3rds majority of disinterested shareholders), and in certain other orders it has passed where it expressed the desire to see disinterested shareholding voting (see one instance here). While SEBI possesses the power to regulate listed companies (and has been exercising this power as indicated above), its plea to the Ministry of Corporate Affairs signals an interest in universal applicability of the rule to even unlisted companies.

This proposal raises interesting issues involving corporate jurisprudence, but whether it will pass muster in Parliament is yet another matter.

(Update - February 18, 2011: Please also see Somasekhar Sundaresan's column in the Business Standard)

Monday, February 7, 2011

Literature on Takeover Regulations

I recently came across two papers dealing with the SEBI Takeover Regulations and other related legislation in India, and a discussion of issues that arise in takeovers of Indian companies.

1. The Emerging Market for Corporate Control in India: Assessing (and Devising) Shark Repellants for India's Regulatory Environment by Abhinav Chandrachud.

Inbound and domestic hostile takeover activity in India have failed to make a dent in the corporate vocabulary, for historical, cultural and regulatory reasons. Conversely, the scale of negotiated “friendly” deals in India has been on the rise. At the regulatory level, Indian promoters are permitted to hold large stakes in their corporations, and are warned in advance when potentially hostile acquirers gain toeholds in their corporations, enabling them to consequently consolidate their holdings. Severe restrictions imposed by India’s central bank on financing acquisitions tend to multiply these difficulties. Historically, the loyalty of domestic institutional investors to established promoter houses, made it difficult to unseat the interests of entrenched Indian promoters. Culturally, “nationalist sentiment” has formed an “invisible barrier” to hostile takeover activity in India, as regulators continue to side with India’s “national champions”. Restrictive foreign investment regulations have long precluded the agility of the inbound raider. However, in recent times the regulatory and historical landscape in India has metamorphosed dramatically. Shareholding patterns in Indian corporations have undergone significant change with the inflow of foreign strategic and institutional investors, even as foreign investment restrictions have been relaxed. Further, the market for corporate control in India has seen interesting movement in the past few years. This paper addresses two questions. As its first and primary question, this paper analyzes whether there is a legitimate possibility that the market for corporate control will gain a greater foothold in India, and whether “invisible barriers” still preclude hostile acquisitions in India. Second, assuming that the answer to the first question is in the affirmative, this paper seeks to address the question of whether the most widely known conventional “shark repellant” deal defense mechanism, viz. the poison pill, is possible under the Indian regulatory regime, although it has been ruled out in previous academic writings.
2. Comparing Takeover Laws in the UK, India and Singapore by Krishna Shorewala and Vasundhara Vasumitra.

This paper makes a first of its kind comparative analysis of the Takeover Regulations in the UK, India and Singapore. It examines how the economic, social and political context of these countries shapes its takeover regulations. Special attention is given to the impact of shareholding patterns and policy objectives on the Regulations. The authors take four major areas of comparative analysis:

- thresholds for mandatory offers;
- penalties for breach/non-compliance of the regulations;
- self-regulation and the need for providing a statutory basis for the regulations; and finally,
- the role of the courts under each system.
These papers add to the preexisting academic (and some practitioner) literature in the form of the following:
a. Hostile Takeovers in India: New Prospects, Challenges and Regulatory Opportunities by Shaun Mathew;

b. Indian Takeover Regulation - Under Reformed and Over Modified by Sandeep Parekh;

c. Thwarting the market for corporate control: takeover regulation in India by Jairus Banaji;

d. Shishir Jose Vayttaden, SEBI’s Takeover Regulations, LexisNexis (2010).
In case readers have come across other literature, we welcome additions to the list through the Comments section.

Islamic Finance and the Indian Constitution

The concepts of Islamic banking and Islamic finance are yet to gain significant ground in India and attain the popularity they have witnessed in other countries. While there has been a debate about the need for a separate legal framework in India to promote the form of finance recognized under principles of Sharia law, the judiciary recently had the opportunity to test the validity of Islamic finance against the touchstone of the Constitution.

The case of Dr. Subramaniam Swamy v. State of Kerala involved a constitutional challenge mounted against the participation of the Kerala Government and the KSIDC in the formation of an Islamic investment company for attracting investment to finance projects in Kerala. The principal ground for challenge was that the state’s participation violates the principles of secularism enshrined in the Constitution. The rationale of the Government for using the Islamic investment vehicle was to tap the vast flow of funds generated by non-resident Indians in the Gulf countries. After considering the arguments of parties (almost entirely on issues of constitutional law), the Kerala High Court upheld the state’s action in establishing the Islamic financial institution. Please see this post on the Law-in-Perspective Blog for extracts and a link to the court’s decision.

Although the Kerala High Court’s decision may not directly propel Islamic finance activity in India, it goes to remove at least one obstacle in popularizing the concept.

Saturday, February 5, 2011

The 1st Annual SLR - Sage Essay Competition

Socio-Legal Review (SLR), the inter-disciplinary, peer-reviewed and student edited journal published by the National Law School of India University (NLSIU) and Sage Publications, the independent international publisher of books, journal and international media have announced the 1st Annual SLR – Sage Essay Competition. 


Participants have to write the essay on any one of the following:

1.  John Milbank argues that, "Liberal principles will always ensure that the rights of the individual override those of the group.” For this reason, he concludes, “liberalism cannot defend corporate religious freedom.” Discuss the 2010 Babri Masjid verdict in light of this statement. 

2.  The Bhopal Gas Tragedy: On Whether and How the Indian Companies Act, 1956 can be used to make a case for imposing social responsibility on corporations?

3.  Are Whistleblowers the New Age Journalists? Critique in Light of WikiLeaks.


First Prize: 10000 INR

Second Prize: 5000 INR

Third Prize: 2500 INR

All three essays will be published on SLR’s website:


1. Submissions should be sent as soft copies to "" in .doc or docx format only. Please state your name and contact information, including your university and year of study,on a separate page and not in the text of the essay. The title of the mail should be “Essay Submission 2011”.

2. The deadline for submissions is 1st April, 2011.

3. The length of the essay should be between 2500 and 3000 words.

4. Any clarifications should be sent with the title “Essay Competition Query” to essay Joint submissions are not permitted.

5. The competition is open to any student anywhere in the world pursuing an undergraduate degree during the course of this event. It is open to students from all streams, including law.

Friday, February 4, 2011

Lobbying: An Indispensable Part of Pluralistic Democracy or the Evil That Needs to Be Shunned?

[The role of lobbying in the legislative and regulatory process in India has been the subject matter of great debate lately. In particular, the role of lobbyists in proving an interface between the corporate sector and various arms of Government is at the forefront. Lobbying has thus far been carried on in an informal manner, and the issue has received scant attention from a legal perspective.
In the following timely post, Satvik Varma explores the precise scope and meaning of lobbying activity and the manner in which it is regulated in the West. Based on the analysis, Satvik suggests measures for regulating lobbying activity in India.

Satvik Varma is an Advocate and Corporate Counsel based in New Delhi. He holds an LL.M. from Harvard Law School and is licensed to practice in India and in New York. He can be contacted at]

Lobbying and the individuals, some self-professed and others who have famously or notoriously earned the title of lobbyists, have recently been scorned at in India. Their existence appears to have astonished some. Their role in civil society and administration has been questioned by others. And their purported influence on the government machinery has left many shocked. Consequently, professional intermediaries, with the persuasive powers to convince, the ability to connect individuals/corporations with the government and the skill to influence public policy appear to have peremptorily been dismissed from the decision making process in India. But before we demonise these individuals let us trace the origins of lobbyists and try to understand the legitimate role these influential individuals/organisations play in some of the more politically advanced countries. It may also be helpful to analyse the legislation which currently exists and regulates the functioning of these powerbrokers in western countries and try to determine if similar legislation could be introduced in India to monitor their scope of work. The eventual goal is to assess, what role, if any, exists for lobbyists in the Indian democracy.

The term ‘lobbyist’ is said to have been in common use in England around the 1840’s. Finding its roots to the British House of Commons, it is believed that special interest petitioners would often gather in the rooms besides the legislative chambers, called ‘lobbies,’ to try to interact with Parliamentarians. These petitioners began to be called ‘lobbyists’ and since then the term has stuck. In the U.S., lobbyists are believed to have been at work from the earliest days of the Congress. It may be of interest to note that some of Washington's first newspaper correspondents were, in certain respects, tariff lobbyists and were sometimes also allowed to obtain seats on the House floor. Some reports revealed that these persons, in contravention of promises to the contrary and in violation of House rules, would lobby the representatives concerning matters such as claims or bills. But one urban legend has it that American President Ulysses S. Grant would often dine at the Willard Hotel in Washington. Wealthy individuals would hang around the lobby of the hotel to interact with him and President Grant began to describe them as lobbyists.

As a profession, lobbying has grown significantly over the years and it is believed that currently there are in excess of 17,000 registered lobbyists in the American capital. Given that most lobbyists focus their activities primarily on the Congress, it is interesting to note that since 1998, 43% of the 198 members of Congress, who left government to join the private sector, have registered themselves as lobbyists! President Obama has been keen to stop this practice termed as “revolving door” and, immediately after taking office, signed some executive orders and presidential memoranda to curtail this movement. But his actions came under severe criticism from these powerful individuals, some of whom were believed to be large contributors to the Democratic Party.

So who is a lobbyist and what is the function they perform? The Lobbying Disclosure Act of 1995 (“LD Act”) in the United States defines a lobbyist as “Any individual who (1) is either employed or retained by a client for financial or other compensation (2) for services that include more than one lobbying contact; and (3) whose "lobbying activities" constitute 20 percent or more of his or her services on behalf of that client during any six-month period.” Lobbying contact is defined as “any oral, written or electronic communication to a covered official that is made on behalf of a client” in relation to subjects specifically covered by the LD Act. Lobbying activities includes “lobbying contacts and any efforts in support of such contacts, including preparation or planning activities, research and other background work that is intended, at the time of its preparation, for use in contacts and coordination with the lobbying activities of others.”

Simply put, leading dictionaries define lobbying as a form of advocacy intended to influence decisions made by public officials and legislators. And lobbyists are persons who undertake the above mentioned activities on behalf of corporations or special interest groups and thereby attempt to affect the formation and implementation of public policy. Before we dismiss lobbyist as sleazy backroom operators one should note that governments also carry out lobbying activity sometimes through its foreign emissaries or by hiring law firms or registered lobbyists. Case in point is when the Indian government engaged the services of a lobbying firm to garner support on Capitol Hill during the Indo-U.S. Civil Nuclear Deal.

In recent times, Britain has also seen a growth of professional lobbying. And while their activities are on a much smaller scale than their counterparts in the United States, the Chartered Institute for Public Relations estimates that almost 14,000 individuals were employed in governmental relations and ancillary activities. These individuals prefer to describe themselves as 'Political Consultants', or 'Public Relations' or 'Public Affairs' consultants but their role in bridging the gap between the government and special interest groups appears to be no different from their counterparts across the Atlantic.

Lobbying in the European Union is slightly more complex given the role of the European Parliament and the impact of its decisions on member nations. But the more political influence the EU gains globally and the additional areas of policy it covers, the greater the role of some 15,000 Brussels based lobbyists who look to influence the EU legislative process. Lobbying in the EU takes place both at the European level as also within the member nations. Lobbyists are active at the EU Commissions, the Council and the European Parliament and exert their influence either through members of the various working groups or through the delegations of the national governments.

Thus, lobbying is a reality of modern day democratic functioning. And given the influence that lobbyists exert in the formation of public policy, the need was felt to establish a set of rules and standards for their functioning. Legislative history relating to lobbying in the United States dates back to the 1940’s, but the LD Act, introduced in 1995, was required to balance the need for reforms with the ability of individuals, groups, and corporations to lobby the government which is protected by the right to petition enshrined in the First Amendment of the United States Constitution. The LD Act required lobbyists to register themselves and while it was amended by the Lobbying Disclosure Technical Amendments Act of 1998, both legislations require lobbyists to file on a regular basis a report identifying themselves, their clients, the individuals lobbied and details relating to the major expenses undertaken, as also a list of legislation that was influenced.

In 2006, the U.S. Senate passed another piece of legislation titled the Legislative Transparency and Accountability Act of 2006, which bars lobbyists themselves from buying gifts and meals for legislators and also requires lobbyists to file a detailed report of their activities, more frequently. Subsequently, the Honest Leadership and Open Government Act of 2007, amended the LD Act with the view to introduce further transparency in the industry. But it would be naïve to overlook the real objective which was to rein in the influence of K Street (the street where most lobbyists have their offices) over Capitol Hill.

In the United Kingdom, currently lobbying is not entirely regulated. In 2009, the House of Commons appointed a Public Administration Select Committee (“U.K. Committee”) to conduct a parliamentary inquiry on lobbying and examine what regulation could be introduced. The U.K. Committee published a detailed report titled, “Lobbying: Access and Influence in Whitehall,” and noted that “the practice of lobbying in order to influence political decisions is a legitimate and necessary part of the democratic process. Individuals and organisations reasonably want to influence decisions that may affect them, those around them, and their environment. Government in turn needs access to the knowledge and views that lobbying can bring.” As for regulation, the U.K. Committee proposed that the “ethics of the activities of lobbyists should be overseen and regulated by a rigorous and effective single body with robust input from outside the industry.” The U.K. Committee also proposed that “there should be a register of lobbying activity provided for in statute, independently managed and enforced, to include information provided by both lobbyists and those being lobbied.”

Unfortunately, the objective of the U.K. Committee’s report to try to bring transparency in the dealings between Whitehall decision makers and outside interests was not successful. The British Parliament responded to the U.K. Committee’s proposal by saying that ‘self-regulation’ was more practical. Hence, currently in the U.K. some self-regulatory bodies which U.K. public affairs companies can join are the Association of Professional Political Consultants and the Public Relations Consultants Association as also the Chartered Institute of Public Relations, which registers individual lobbyists.

In India, the business landscape has changed and Washington-style advocacy methods based on rigorous research, accompanied by power-point presentations and seeking assistance of industry experts, trade associations and think-tanks for building public opinion seems to be the new order of the day. While some of these practices have been criticised, it should be noted that lobbying is not an illegal activity and is not banned in India. Admittedly, organized lobbying is still at a nascent stage in India, and is thus entirely unregulated. Lobbyists or special interest groups are not obliged to adhere to any specific rules or laws and also don’t have any obligation to reveal the lobbying position of corporations or the money which is spent to campaign for particular policies.

Notably, in 1998 a 5 Judges Constitution Bench of the Supreme Court of India heard the famous “Cash for Vote Case.” There was a split judgment in this case and the view of the majority was that the alleged bribe-taking Members of Parliament (“MP”) were entitled to Constitutional immunity from being prosecuted for the alleged act of having received monies to exercise their right to speak or cast their vote in a particular manner in the Parliament. The majority was also of the opinion that while prosecution against the bribe-givers could be proceeded with in the manner prescribed under law, the Parliament could proceed against both the bribe-givers and the bribe-takers for breach of privileges and for contempt of the Parliament.

With due respect, it appears that the majority decision was perhaps based on the practical political realities and in fact the decision of the minority holding that a MP is not entitled to the powers, privileges and immunities of the Parliament from being prosecuted before a criminal court for an offence involving offer or acceptance of bribe for purposes of speaking or by giving his vote in Parliament appears to be more appropriate. One also tends to agree more with the minority view that “the criminal liability incurred by an MP who has accepted a bribe for speaking or giving his vote in Parliament in a particular manner thus arises independent of the making of the speech or giving of vote by the MP and the said liability cannot, therefore be regarded as a liability “in respect of anything said or any vote given” in Parliament.” It is difficult to reconcile with the fact that MPs are entitled to Parliamentary immunity if they accept a bribe to speak or cast their vote in a particular manner in Parliament and do what they accepted the bribe for, but are liable to be prosecuted on a charge of bribery if they accept a bribe but do not actually undertake the act for which the bribe was given. The bottom line is that legislators should be liable to be prosecuted for accepting a bribe to perform their legislative responsibilities.

Many years later the Supreme Court of India also decided the “Cash for Query Case” which had prominent hints of lobbying. The facts in this case were that a private channel had conducted a sting operation and found some MPs accepting money as consideration for raising certain questions in the House and for otherwise espousing certain causes for those offering the lucre. The matter was referred by the House to a committee which found the acceptance of money had a direct connection with the work of the Parliament and had eroded the credibility of the Parliament as an institution and as a pillar of democracy and recommended the expulsion of all the 10 charged MPs. However, the issue before the Court in this case was not about the ethics of accepting money for raising questions, for which the appropriate course of action would be to prosecute the MP for corruption in accordance with law, but rather the constitutional validity of the expulsion of the MPs, and, so currently there appears to be no direct judicial precedence concerning lobbying.

Steering back to the main issue of lobbying, U.S. Senator Robert C. Byrd in his address in 1987, when he was the Senate Majority Leader, quoted Margaret S. Thomson, the author of “The Spider’s Web: Congress and Lobbying in the Age of Grant,” as stating that the U.S. “Congress was unprepared for the vast economic changes occurring in the nation and needed all the help it could get.” Thomson went on to state that “pressures on the federal government were steadily increasing. The more crowded the congressional agenda became-with issues of finance, industry, internal improvements, and international relations-the more interests demanded to be heard. This is the nub of what political scientists call ‘pluralistic democracy.’ With this background, Margaret Thompson defined lobbying as “the process by which the interests of discrete clienteles are represented within the policy-making system.” She defined lobbyists as “representatives who act concurrently with, and supplement the capabilities of, those who are selected at the polls. Lobbyists fill roles that in many ways are comparable to those of legislators: helping to transmit and obtain satisfaction for demands upon the government, thereby advancing the substantive interests of those whom they have taken it upon themselves to serve.”

Interestingly, Senator Byrd in his address went on to say that “although we often hear a hue and cry about “special interests,” everyone, in a sense, belongs to a multitude of these interests: we are defined by our gender, race, age, ethnicity, religion, economic status, educational background, and ideological bent. Some groups are better funded or better organized than others: corporate interests, organized labor…. Some groups, especially the very young, the very old, the very poor, are the least organized and the least able to make their needs heard. Nevertheless, they all have a “special interest” in congressional (read parliamentary) action. Members of Congress, of course, attempt to represent all of the various interests within their constituencies, but they must establish some priorities. Lobbyists attempt to shape those priorities by reminding them of the needs of specific groups.

Whether or not we agree with the above comments, the reality is that lobbying exists, is more widespread than it is presumed to be, performs a critical function and is likely to remain a major element within the wider political and governmental process. In fact, sufficient research has been carried out across different countries, which concludes that “lobbying is a legitimate part of the democratic system, regardless of whether it is carried out by individual citizens or companies, civil society organisations and other interest groups or firms working on behalf of third parties (public affairs professionals, think-tanks and lawyers).” The lobbyists therefore play an important if not an essential role in the entire legislative process and sometimes even help to ensure that the view of certain interest groups are heard before policies that potentially affect them are drafted.

In light of the above, it would be prudent to accept that it is not lobbying that is the problem. The lack of transparency coupled with the lack of regulation and inability to monitor the functioning of these powerful individuals is what appears to be the root of the problem. The UN Global Compact, the world's largest voluntary coalition of corporations, has been battling lobbying. This coalition believes that “lobbying, by nature, is informal and opaque, and therefore may defy regulation.” But, the coalition goes on to note, that there is consensus even among those who resist it that “lobbying ought to cease to be a 'behind the scenes' activity and that it ought to be seen as a legitimate, regulated business function.”

But as the U.K. Committee noted, “The experience of other jurisdictions suggests that there is no ‘one-size-fits-all’ or ‘off-the-shelf’ solution to the regulation of lobbying and that early attempts at solutions often need subsequent adjustment.” Therefore, India, while considering regulating the lobbying industry, can learn from the international best practices and adopt what’s most appropriate and practical. One of the paramount considerations has to be to ensure that all those who engage in the development and delivery of policy in India do so with complete transparency. Lobbyists and groups that seek to contribute to the policy development, influence decision-makers, looking to raise issues and special interests, must at a minimum disclose who they represent, the objectives of their efforts, the input they provide and how they are funded. The general public has the right to know about the relations between interest representatives and the policy makers. The Right to Information Act can prove to be handy in achieving this objective and compliance under the said Act can be extended to include information about ministerial and other official/bureaucratic meetings with external interest groups.

Equally important is to have rules that govern the conduct of the lobbyists and those being lobbied. With the rise of single-issue politics, people are looking to NGOs and other interest groups, be it think tanks, professional bodies, trade unions, trade associations or charities to represent their interests. Given that policy makers are more likely to be persuaded by the arguments put forward by charities and interest groups over those put forward by private business, (as noted by Hansard Society, a U.K. based independent, non-partisan educational charity which exists to promote effective parliamentary democracy, based upon a survey conducted by it and published in a discussion paper titled, “Friend or Foe? Lobbying in British Democracy”), it is important that all those who have a significant impact on policy development in a democracy are required to register themselves. The registration process needs to be mandatory and enforced by statute and this should help in not only organizing the industry but can also prove as an incentive to those registered to be consulted in the policy making process. The registration can mirror some of what is prescribed internationally to include details of the organizations hiring their services, details of any public office previously held by an individual lobbyist, details of the interests of decision makers within the public service and summaries of their career histories outside the public service.

One realizes that there is no unanimity over the legitimacy and usefulness of lobbying. There is also fear that the interests of those who do not have the money or influence to hire lobbyists may not be appropriately represented in the democratic process. Hence, any proposed regulatory systems needs to maintain a balance so that the business groups regardless of their political contributions do not wield disproportionate influence over policy making.

In the final analysis, the observations of the Hansard Society most appropriately sum up the discussion on lobbying that “it is necessary to move beyond debates about the relative legitimacy or illegitimacy of lobbying in itself. Instead, it is important to focus more directly on the issues raised in debates between NGOs, charities, interest groups, think tanks, trade associations, and businesses, and whether the organisations the public increasingly looks to in order to represent their views in the political process are transparent and accountable and bound by common standards of good practice and ethical conduct. When conducted in such a way, lobbying may enrich our parliamentary democracy by providing new and diverse channels through which different groups and the wider public might feed into the democratic system.”

The choice in India is now ours on whether we want to invite these powerful individuals away from the lobby into the main stay of the legislative process or risk that they continue to use all means at their disposal to influence policy making from ‘a third house.’

- Satvik Varma