Wednesday, June 29, 2011

Infrastructure Development Fund

The Ministry of Finance has issued a press release that paves the way for setting up  “Infrastructure Debt Funds (IDFs) in order to accelerate and enhance the flow of long term debt in infrastructure projects for funding the government’s ambitious programme of infrastructure development.” IDFs are envisaged to be suitable vehicles that enable raising debt to finance infrastructure projects.
The Ministry’s proposal contemplates two organizational structures for IDFs. The first is a vehicle in the form of a mutual fund using the traditional trust structure. The second is a company structure that is established in the form of a non-banking finance company (NBFC). Due to the nature of regulation governing the two types of entities, an IDF set up as a mutual fund (trust) will be regulated by Securities and Exchange Board of India (SEBI), while an IDF set up as an NBFC will be regulated by the Reserve Bank of India (RBI).
Although the proposal to set up IDFs is laudable and could result in obtaining the require finance to develop infrastructure, the nature of dual regulation could result in problems in implementation and also regulatory arbitrage. Past track record also indicates that overlapping jurisdiction of multiple regulators could cause confusion, as we have witnessed last year in the ULIP saga. Unless any other alternative is pursued, the Financial Stability and Development Council (FSDC) established a few months ago would have to bear the burden of coordinating policy-making among the different financial sectors regulators.

Tuesday, June 28, 2011

UK Bribery Act: Impact on Indian Companies

The UK Bribery Act 2010 is scheduled to become effective July 1, 2011 following the issuance of detailed guidance in March. This is expected to have a significant impact on Indian companies having a demonstrable business presence in the UK.

In this behalf, an article in the VC Circle by Saionton Basu and Tom Clark details the various steps to be taken by affected Indian companies to “review or implement anti-bribery procedures and policies”.

Monday, June 27, 2011

Discussion Paper on FDI Equity Caps

Continuing with its practice of engaging in public consultation before announcing changes to the FDI policy, the Department of Industrial Policy and Promotion (DIPP) has issued a discussion paper on “FDI Policy-Rationale and Relevance of Caps”. The discussion paper introduces the possibility of abolishing all sectoral caps for foreign equity shareholding below 49%.
Before dealing with the rationale of discussion paper, it would be necessary to identify the various rights available to shareholders at the different equity caps that currently operate under the FDI policy (which are identified in the discussion paper itself).
26% - ability to block special resolutions;
49% - shareholding falling short of control;
51% - availability of control rights (i.e. ability to appoint and remove directors); and
74% - inability to pass special resolutions (as remaining shareholders collectively hold the right to block).
The discussion paper provides a number of reasons for the move to abolish caps up to 49%. These require further consideration:
First, the paper relies on aspects of interpretation of the FDI policy. Specific reference is made to Press Notes 2, 3 and 4 of 2009 (discussed here and here) which permit Indian companies with ownership and control remaining with Indian hands to make downstream investments. In other words, an Indian company with 49% foreign investment can make downstream investments without restrictions on further equity holding. The current discussion paper adopts the stance that if foreign investment is indirectly permitted up to 49% in the holding company (where control remains with Indian hands), there is no reason to restrict direct holding in Indian companies to the extent of 49%. If something is permitted indirectly, there is no reason why it should not be permitted directly. The logic of this approach is that with a 49% cap on foreign shareholder, there is no “control” available to foreign investors under company law.
The above reasoning arises from an interpretation of previous policy established in 2009, rather than by way of any independent analysis. It flows from the viability or otherwise of previous policy. From a conceptual standpoint, the reason for limiting the analysis to 49% and below is not clear. The discussion paper seems to proceed on the basis that any shareholding up to 49% would provide same rights in respect of the company (i.e. the lack of control). If that logic were to be accepted, there is no merit in retaining separate caps and 51% and 74%, because the control rights at both those levels too are the same – namely that ordinary resolutions may be passed, but not special resolutions. It remains to be seen whether such differentiation in shareholding above 49% will be considered.
Second, the discussion paper seeks to reduce the effect of sectoral caps as they “also provide an opportunity for arbitrage to unscrupulous Indian partners, which certainly has a cost for the consumer and comes in the way of the country deriving optimal benefit of the FDI”. Interestingly, reliance in placed on a couple of newspaper editorials which make a case for removal of caps as they provide the Indian shareholders with distinct advantages.
Even here, the limitation of the discussion to caps up to 49% is not clear. In fact, the issue of sleeping partners deriving undue advantage will have greater play when the foreign shareholder has a higher stake than 50% and therefore is in control. Minority Indian partners in that scenario only make passive investments without participation in the management.
Third, the partial removal of equity caps is linked to ebbing FDI flows into India in the year 2010. Among several countries in a study cited by the discussion paper, India “is the only major country in South Asia where FDI inflows have fallen during 2010”. This concern has been significant in policy making even in liberalizing other aspects of the FDI policy.
Overall, the partial removal of sectoral caps will result in streamlining the FDI policy. Other areas where the discussion paper seeks to remove ambiguities relate to the requirement for foreign investors to offload equity within a stipulated period and in addressing the question as to whether the caps should (or should not) include investments by foreign institutional investors (FII).

Friday, June 24, 2011

Rule 10b-5 and the "Maker" of a statement: Janus Capital v. First Derivative

Last week, in a 5-4 verdict, the US Supreme Court once again narrowly interpreted Rule 10b-5, this time holding that only the “maker” of a false statement could incur 10b-5 liability: “maker” in this context being defined as “person or entity with ultimate authority over the statement.” The case, Janus Capital Group Inc. v. First Derivative Traders, reversed the Fourth Circuit's holding that liability under Rule 10b-5 could be more expansive. Justice Thomas delivered the majority opinion, with a strong dissent by Justice Breyer.

Briefly, the facts were that Janus Capital Group, Inc. (JCG) was a publicly traded company which created the Janus family of mutual funds. These funds were organized in a business trust, the Janus Investment Fund (JIF). JIF retained Janus Capital Management (JCM) to be its investment adviser and administrator. JCM was a wholly owned subsidiary of JCG. The issue before the Court was whether JCM could be liable in a private action under Rule 10b-5. The plaintiffs alleged that JCM had substantially caused the prospectuses issued by the Janus mutual funds to contain misleading statements, and on this basis argued that JCM could be liable under Rule 10b-5. The Fourth Circuit held in favour of the plaintiffs, holding that “[JCG and JCM] by participating in the writing and dissemination of the prospectuses, made the misleading statements contained in the documents.” [Emphasis in original] It was found that a reasonable investor could easily have inferred that “JCM played a role in preparing or approving the content of the Janus fund prospectuses.”

Rule 10b-5 makes it unlawful for “any person, directly or indirectly…  to make any untrue statement of a material fact”. By majority, on the basis of a literal reading of the word “make”, the Supreme Court reversed the Fourth Circuit. The majority opinion states:

One “makes” a statement by stating it… For purposes of Rule 10b–5, the maker of a statement is the person or entity with ultimate authority over thestatement, including its content and whether and how tocommunicate it. Without control, a person or entity canmerely suggest what to say, not “make” a statement in its own right. One who prepares or publishes a statement on behalf of another is not its maker… This rule might best be exemplified by the relationship between a speechwriter and a speaker. Even when a speechwriter drafts a speech, the content is entirely within the control of the person who delivers it. And it is the speaker who takes credit—or blame—for what is ultimately said…

Arguments based on the close relationship of the investment adviser and the funds were also rejected:

“For its part, [the plaintiff] suggests that the “well recognized and uniquely close relationship between a mutual fund and its investment adviser” should inform our decision… It suggests that an investment adviser should generally be understood to be the “maker” of statements by its client mutual fund, like a playwright whose lines are delivered by an actor. We decline this invitation to disregard the corporate form. Although First Derivative and its amici persuasively argue that investment advisers exercise significant influence over their client funds… it is undisputed that the corporate formalities were observedhere. JCM and Janus Investment Fund remain legally separate entities, and Janus Investment Fund’s board of trustees was more independent than the statute requires… Any reapportionment of liability in the securities industry in light of the close relationship between investment advisers and mutual funds is properly the responsibility of Congress and not the courts.

Thus, only JIF was the maker of the statement in its prospectus, and its advisers, including advisors from within the same corporate group, could not be treated as “makers” according to the majority. Thus, Rule 10b-5 will not render third party advisers liable – the only liability is on the “maker” of the statement, being the person with ultimate responsibility for the statement.

[Justice Breyer’s dissent is based on a more contextual understanding of the word “make”: “… the majority has incorrectly interpreted the Rule’s word “make.” Neither common English nor this Court’s earlier cases limit the scope of that word to those with “ultimate authority” over a statement’s content. To the contrary, both language and case law indicate that, depending upon the circumstances, a management company, a board of trustees, individual company officers, or others, separately or together, might “make” statements contained in a firm’s prospectus—even if aboard of directors has ultimate content-related responsibility. And the circumstances here are such that a court could find that Janus Management made the statements in question.”]

The Harvard Corporate Governance Forum has a note on the ruling here. Race to the Bottom has a three-part critique of the ruling – Part 1, Part 2, and Part 3.

SEBI’s Further Order in the Sahara Case

SEBI yesterday issued a detailed and well-reasoned order in the case involving the offering of optionally fully convertible debentures (OFCDs) by two Sahara companies. It found that the Sahara companies had offered OFCDs to millions of investors in the garb of a ‘private offering” without complying with the requirements applicable to a public offering of securities.

Although the order itself is 99 pages long, it contains a useful summary of conclusions (at para 27.2), which is extracted below:
1. OFCDs are hybrid instruments, and are ‘debentures’.

2. The definition of ‘securities’ under Section 2(h) of the SCR Act is an inclusive one, and can accommodate a wide class of financial instruments. The OFCDs issued by the two Companies fall well within this definition.

3. The issue of OFCDs by the two Companies is public in nature, as they have been offered and issued to more than fifty persons, being covered under the first proviso to Section 67(3) of the Companies Act. The manner and the features of fund raising under the OFCDs issued by the two Companies further show that they cannot be regarded to be of a domestic concern or that only invitees have accepted the offer.

4. Section 60B deals with the issue of information memorandum to the public alone. Therefore the same cannot be used for raising capital through private placements as the said provision is exclusively designed for public book built issues. When a company files an information memorandum under Section 60B, it should apply for listing and therefore has to be treated as a listed public company for the purposes of Section 60B(9) of the Companies Act. Further, Section 60B has to be read together with all other applicable provisions of the Companies Act and cannot be adopted as a separate code by itself for raising funds, without due regard to the scheme and purpose of the Act itself. The same evidently has never been the intention of the Parliament.

5. The two companies, in raising money from the public, in violation of the legal framework applicable to them, have not complied with the elaborate investor protection measures, explained in Paragraph 25 above. This, inter alia, also means that the rigorous scrutiny carried out by SEBI Registered intermediaries on any public issue by a public company have been subverted in the mobilization of huge sums of money from the public, by the two Companies.

6. The two Companies have not executed debenture trust deeds for securing the issue of debenture; failed to appoint a debenture trustee; and failed to create a debenture redemption reserve for the redemption of such debentures.

7. The two Companies have failed to appoint a monitoring agency (a public financial institution or a scheduled commercial bank) when their issue size exceeded `500 cr., for the purposes of monitoring the use of proceeds of the issue. This mechanism is put in place to avoid siphoning of the funds by the promoters by diverting the proceeds of the issue.

8. The two companies failed to enclose an abridged prospectus, containing details as specified, along with their forms.

9. The companies have kept their issues open for more than three years/two years, as the case may be, in contravention of the prescribed time limit of ten working days under the regulations.

10. The two companies have failed to apply for and obtain listing permission from recognized stock exchanges.
Although the case involved an egregious set of facts, the SEBI order leaves no stone unturned in establishing the case of violation on the part of the Sahara companies. Despite being an order of first instance by a regulatory authority, it is replete with in-depth judicial analysis of various concepts under corporate and securities laws, including the meaning and scope of financial instruments such as OFCDs, debentures and hybrid securities, and the interpretation of various provisions of the Companies Act and Securities Contracts (Regulation) Act, all of which have been supported by relevant case law.

Wednesday, June 22, 2011

Preferential Allotment of Securities in Unlisted Companies

The Ministry of Corporate Affairs (MCA) has announced draft rules that will, when promulgated, substitute the Unlisted Public Companies (Preferential Allotment) Rules, 2003. This will make the process of issue of securities more stringent for unlisted public companies. The Indian Legal Space blog has a nice comparison of the existing rules and the proposed changes.
Some of the key features of the draft rules and their impact are as follows:
Unlike the existing regime, the draft rules require companies to issue an offer document with prescribed disclosures (Annexure I of the draft rules contain a list of 32 disclosures). This significantly enhances disclosure requirements for securities offerings by unlisted companies, and would make even private placements cumbersome and costly. While it increases overall transparency in offerings of securities, the need for such extensive disclosures for offerings of securities to specific individuals or institutions is perhaps overstated. Moreover, there is no clarity regarding the liability of the company and its directors for statements made in such offering document, although the Supreme Court has recently indicated the availability of criminal laws to deal with misstatements in offering documents in private placements.
The offer document is also to be approved by shareholders through a special resolution. This is also an onerous requirement as it might limit the flexibility of the company to alter the document once it has been approved by the shareholders. In addition, this will also impose complexities in timing and sequencing of compliances to effect a private placement transaction.
The draft rules stipulate two conditions regarding timing: (i) the gap between the opening and closing of the issue should be limited to 30 days; and (ii) the minimum gap between the closing of one issue and the opening of another issue must be 60 days. This is possibly intended to deal with ambiguities that exist in the definition of a private placement/offering in terms of section 67(3) of the Companies Act, 1956 where an offer is deemed to be made to the public if it is made to 50 persons or more. By setting time limits, the draft rules seek to impose more objective criteria to differentiate private placements from public offerings. For a greater discussion of this issue in the context of section 67(3), please see a previous post.
While objectivity is generally desirable, the idea of artificially delineating one private placement from another through timing may add to the confusion. For example, it may be possible for companies to structure successive private placements although the offering may cumulatively be made to a large body of investors.
Convertible Instruments
The draft rules make convertible instruments an unattractive option for public unlisted companies.
First, the pricing rules for warrants (that presumably apply to other convertibles as well) are rigid. The price for conversion of warrants must be determined before hand. In other words, the conversion price has to be stated up front, and it appears that neither a conversion formula nor a price band would be available. That removes all flexibility for conversion, which would effectively make warrants in public unlisted companies unattractive as an investment option. Note, however, that this is exactly contrary to the trend established by the FDI Policy of the Government of India which has recently moved from a fixed conversion price to a more flexible policy when it comes to investment in convertible instruments by foreign investors.
Second, for any issue of convertible instruments that results in a cumulative amount of Rs. 5 crores or more, the company is required to seek the prior approval of the Central Government. This is a retrograde step as it imposes hurdles to fund-raising activities of companies. It is also likely to evoke problems that existed in the days of the controlled economy prior to 1991, with the Controller of Capital Issues (CCI) acting as the authority that indulged in merit regulation by specifically approving fund-raising by companies. In fact, even the CCI regime applied only to public offerings where the interest of the investing community at large was at stake. The application of a similar regime under current conditions, and that too for private placements seems inexplicable. The draft rules buck the trend as other areas of corporate regulation have recently witnessed attenuation in government regulation.
Dematerialization of Securities
Here again, the flexibility of retaining securities either in physical form or demat form has been taken away, as all securities issued under private placement have to be kept only in demat form.

Overall, the draft rules make private placements in unlisted public companies an onerous task. This may seriously impact financing in such companies. Curiously enough, some of the requirements suggested in the draft rules go even beyond those prescribed for public listed companies where larger interests are affected. These include the requirement for shareholders to approve the offer document, restrictions on pricing for convertible securities, and the like.
It has been suggested that the draft could be the result of various scams involving unlisted companies and also instances of ambiguities in securities regulation (such as those witnessed in the Sahara episode previously discussed). While it is imperative that regulations be framed to address scams and frauds, the imposition of onerous requirements on the corporate sector as a whole to address a few bad apples imposes greater costs than the benefits it produces. The strategy of painting all public unlisted companies with the same brush will be counterproductive.

Tuesday, June 21, 2011

SEBI Reasserts Views on Put and Call Options

In view of the provisions of the Securities Contracts (Regulation) Act, 1956 (SCRA) and notifications issued thereunder, the validity of put and call options on securities of public limited companies entered into outside the stock exchange has been in doubt. In the last year, however, SEBI has been making its stand clearer: such options are invalid. On two previous occasions involving the MCX Exchange and Vedanta/Cairn Energy deal, SEBI outlawed clauses in agreements dealing with forward contracts such as buyback agreements and put and call options. Last moth, SEBI buttressed its position in an informal guidance sought by Vulcan Engineers Limited.
In Vulcan Engineers, the company approached SEBI to determine whether a preferential allotment of 14% shares to SIMEST SpA, an Italian financial institution, would make the allottee a “person acting in concert” with the largest shareholder of the company, being Terruzzi Fercalx SpA, another Italian company. SIMEST was the beneficiary of a put option whereby it could require Terruzzi to purchase its shares in Vulcan Engineers after a predetermined time. The informal guidance was sought as a matter of interpretation under the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 1997.
In responding to the request, SEBI observed:
(ii) The legality of the … put/call option in the agreement is examined in terms of provisions of Securities Contracts (Regulation) Act, 1956 [SCRA].
(iii) As this option would be exercised in a future date (June 30, 2015 onwards), the transaction under this arrangement would not qualify as spot delivery contract as defined [in] section 2(i) of SCRA. Further, the aforesaid put/call option would not qualify as a legal and valid derivative contract in terms of section 18A of SCRA as it is exclusively entered between two parties and is not a contract traded on stock exchanges and settled on the clearing house of the recognized stock exchange.
(iv) Therefore, in light of the aforesaid provisions of SCRA read with SEBI Notification No. S.O. 184(E) dated 1st March 2000, the pre-agreed buyback of VEL shares from SIMEST through put/call option is not valid under SCRA. In view of the same, further examination with regard to the guidance sought in the interpretative letter does not arise.
Interestingly, while the informal guidance itself was sought under the Takeover Regulations and not in respect of SCRA, SEBI instead dealt with the (in)validity of the put and call options and refused to proceed to answer the specific questions posed. The same can be said of the earlier instances of MCX Exchange and Vedanta/Cairn Energy where SEBI has been seizing every available opportunity to deal with the options issue quite extensively although that may not have been altogether germane to the principal issues before SEBI.
Such a clear stance adopted by the regulator will likely affect a number of investment transactions in both listed as well as public unlisted companies where the inclusion of put and call options are customary. Some argue (see this column by Sandeep Parekh) that the initial proscription of options in securities has outlived intervening developments in securities markets and their regulation. This is therefore an opportune moment for a regulatory or judicial reconsideration of the policy issues surrounding put and call options and whether they indeed result in speculation (as the original legislation had contemplated).

Update - June 22, 2011: Somasekhar Sundaresan has an interesting analysis in the Business Standards that highlights several unintended consequences that could arise out of SEBI's ruling.

Friday, June 10, 2011

Restraining the Breach of a Negative Covenant

It is common knowledge that an injunction is granted only if the applicant satisfies the court on the three-pronged test of prima facie case, irreparable injury and balance of convenience. While there is controversy over the scope of some of these elements, notably prima facie case, and over the relationship between these elements, there are also circumstances in which an applicant may be able to obtain an injunction without satisfying the three-pronged test. The recent judgment of the Court of Appeal in Araci v Fallon contains a clear exposition of this point.

The case arose out of rather unusual circumstances. As is well-known, the 2011 edition of the Epsom Derby, one of the most prestigious horse races in Britain (“the Derby”) took place on 4 June, 2011. The claimant, Mr Araci, was the owner of one of the favourites (“Native Khan”) which he expected would be ridden by Mr Fallon, a highly regarded jockey. Mr Araci and Mr Fallon had entered into a Rider Retainer Agreement (“RRA”) on 1 April 2011, under which Mr Fallon received £10,000 for undertaking two important obligations: first, to ride Mr Araci’s horse whenever requested by him to do so, and secondly, to not ride a rival horse in any race in which he has been requested by Mr Araci to ride the latter’s horse. In other words, the RRA contained a positive as well as a negative covenant. Invoking these provisions, Mr Araci asked Mr Fallon to ride Native Khan at the Derby. Mr Fallon communicated his refusal to do so on 30 May 2011, and indicated that he intended to ride “Recital”, owned by a rival and also a favourite. Mr Araci promptly sought an injunction to restrain him from acting in breach of the negative covenant.

The judge at first instance dismissed the application, finding that there was an adequate remedy in damages, and that it was unjust in all the circumstances to grant the equitable relief sought. The Court of Appeal, in an instructive judgment, reversed. Jackson LJ began by noticing that the practice of considering the strength of a party’s case on the merits and the balance of convenience is rarely appropriate when an injunction is sought to restrain a clear breach of a negative covenant. This principle goes back to Lord Cairns LC’s classic, albeit obiter, observations in Doherty v Allman:

If parties, for valuable consideration, with their eyes open, contract that a particular thing shall not be done, all that a court of equity has to do is to say, by way of injunction, that which the parties have already said by way of covenant, that the thing shall not be done … It is not then a question of the balance of convenience or inconvenience, or of the amount of damage or of injury – it is the specific performance, by the court, of that negative bargain which the parties have made, with their eyes open, between themselves

The clear rationale that emerges from this passage is that it is inappropriate to require the applicant to demonstrate that the balance of convenience favours the grant of an injunction when the defendant has contractually agreed to refrain from doing the very thing in respect of which the injunction is sought. However, Doherty was a perpetual injunction case and it was not clear whether the same approach would prevail so far as interim injunctions are concerned. In granting an injunction restraining the defendant from playing a musical instrument in breach of a negative covenant, Megarry J. confirmed that it does, because there is “…no reason for allowing a covenantor who stands in clear breach of an express prohibition to have a holiday from the enforcement of his obligations until the trial” [Hampstead and Suburban Properties Limited v Diomedous (1969) 1 Ch 248].

Thus the rule is that an injunction will be granted to restrain a clear breach of a negative covenant unless there are “special circumstances”. In this case, Jackson LJ concluded that Mr Araci did not have an adequate remedy in damages, and Elias LJ made the additional point that it was not even necessary to decide that question, because adequacy of damages is not relevant when an applicant seeks to merely hold the respondent to his negative covenant. Nor did there exist special circumstances making it oppressive to grant the relief sought. Mr Fallon suggested that granting an injunction would adversely affect the public, because some may have made bets on the assumption that Mr Fallon would ride, while for others it would detract from the quality of a major national event. Jackson LJ rejected the first point because a member of the betting public runs the risk of an unexpected change in sporting variables, and the second because there was no risk that the Derby would not take place, although Mr Fallon himself could not participate. Mr Fallon’s loss was disregarded because he had “brought this predicament upon himself by his own deliberate and cynical disregard of a contract.” It was accepted that the position would have been different if the injunction could have affected the event itself.

Restrictions on Redemption of IDRs

On the basis of prevalent regulations, Standard Chartered Bank issued Indian Depository Receipts (IDRs) last year with the offer document stating that IDRs would be convertible into equity shares by way of redemption one year after the issue subject to the approval of the Reserve Bank of India (RBI) on a case-by-case basis. However, one year after the IDR offering, SEBI has issued a new circular on June 3, 2011providing that “redemption of the IDRs shall be permitted only if the IDRs are infrequently traded on the stock exchange(s) in India.” This imposes a significant restriction on redemption of IDRs that was previously not anticipated, and hence appears as a change to the legal regime that further restricts the viability of IDR issuances in the Indian markets.
A report in the Business Standard highlights the consequences of SEBI’s decision:
The annualised trading volume in Standard Chartered’s IDRs over the last six months was 48.5 per cent of the total IDR issue. So, there will be no redemption. Sebi’s move has hurt investors, as they lost an arbitrage opportunity of converting the IDR into underlying shares and selling it in global markets.
This announcement is not in the interest of future IDR issuances. Some even say foreign companies would find it difficult to attract investors because of the limited exit route.

The rationale for the decision to restrict redemption to illiquid IDRs is yet unclear.

Wednesday, June 8, 2011

Public Financial Institutions under Section 4A of the Companies Act, 1956: MCA Circular

(This post is contributed by Vaibhav Modi)
Section 4A of the Companies Act, 1956 (the “Act”) lays down what institutions shall be regarded as public financial institutions for the purposes of the Act. Section 4A(2) empowers the central government to specify other institutions as a public financial institution by a gazetted notification. This sub-section is 4A(2) has a proviso which lays down the following criteria for an ‘institution’ to be specified as a public financial institution by the central government:
(i)     the institution should have been established/constituted by or under any Central Act, or,
(ii)     not less than fifty-one percent of the paid up share capital of such institution must be held or controlled by the central government.
The Ministry of Corporate Affairs vide a circular dated 2 June 2011 has prescribed some additional conditions for an institution to be declared as a Public Financial Institution under Section 4A of the Act. These additional conditions are produced below from the said circular:
(a)  A company or corporation should be established under a special Act or the companies Act being Central Act;
(b)  Main business of the company should be industrial/infrastructural financing;
(c)  The company must be in existence for at least 3 years and their financial statement should show that their income from industrial/infrastructural financing exceeds 50% of their income;
(d)  The net-worth of the company should be Rs. one thousand crore;
(e)  Company is registered as Infrastructure Finance Company (IFC) with RBI or as an Housing Finance Company (HFC) with National Housing Bank;
(f)   In the case of CPSUs/SPSUs, no restriction shall apply with respect to financing specific sector(s) and net-worth.
Henceforth, for any financial institution to be declared as a public financial institution, it will have to fulfill these additional conditions, apart from the requirements under the proviso to Section 4A(2) of the Act. These additional conditions inter alia prescribe that a financial institution to be declared as a public financial institution must be having industrial/infrastructural financing as its main business and having a net worth of Rs. 1000 crores.
While the Act uses the word ‘institution’ in the proviso to Section 4A(2), the circular uses the word ‘company’ in the conditions (a) to (e). The wording of condition (a) above appears to be confusing and suggestive of the first criteria under the proviso to Section 4A(2) of the Act.
The use of the phrase ‘special Act’ in condition (a) may also be interpreted to be a ‘special Act’ of a state legislature, for it is not clear if the qualification in the later part ‘being central Act’ applies to the phrase ‘special Act’.  This further gains support from
condition (f) which exempts a state public sector undertaking (and also a central public sector undertaking) from conditions on financing specific sectors and net worth, thereby indicating that a state public sector undertaking can be a public financial institution.
- Vaibhav Modi

Saturday, June 4, 2011

Academic Analysis of CSR in India

Although there has been a signficiant amount of discussion about corporate social responsibility (CSR) in India, there has been little academic analysis of the concept. A new paper titled Directors as Trustees of the Nation? India’s Corporate Governance and Corporate Social Responsibility Reform Efforts by Professor Afra Afsharipour fills this gap. Interestingly, it also considers the crucial interplay between corporate governance and CSR. The abstract is as follows:
Corporate law in India has been fundamentally transformed since the early 1990s. In conjunction with significant economic liberalization, the Indian government has introduced a series of corporate law reforms aimed, in part, at creating a system of transparent, ethical, and accountable corporate functioning. Early reforms sought to implement rules and practices that addressed traditional corporate governance concerns, in other words the relationship between firm managers and shareholders and the relationship among different groups of shareholders, particularly majority and minority shareholders. More recently, not only has the Indian government implemented laws to address corporate governance matters, but it has also started addressing the corporate social responsibility (CSR) area.

This Article argues that the Indian government’s corporate governance and CSR efforts, while laudable in some respects, are problematic in their approach to the governance of Indian companies and reflect a view of the ownership and governance of Indian companies that does not necessarily address the fundamental governance issues that arise in Indian firms. India’s proposed corporate law reforms suggest imposition of detailed corporate governance rules without necessarily assisting directors in addressing the majority–minority agency problems of controlled companies. Moreover, India’s proposed CSR guidelines may further hamper independent directors and exacerbate some of the problems that this Article discusses with respect to majority–minority agency costs.