Eons ago, an English judge remarked that “public policy” is an unruly horse and once you get astride it you will never know where it will carry you. Lately, corporate India has been left to contend with another unruly horse in the form of the concept of “control”, whose scope and meaning have been stretched in different directions without the requisite precision, often altering according to time and situation. This is now playing out in the form of the seeming quest for the ideal definition of “control” in the context of the foreign direct investment (FDI) policy in India.
The concept of control arises in several different contexts in corporate transactions. For instance, it is used to determine whether a mandatory open offered requirement arises under the SEBI Takeover Regulations. It also arises in the context of competition law and the merger control regime. Of immediate relevance is the fact that it arises in determining whether the control of an Indian company is in foreign hands so as to decide whether the relevant FDI norms have been complied with, especially in certain sensitive sectors.
The concept of control was primarily introduced in the FDI policy in 2009 while dealing with the question of downstream investments by Indian companies that were owned or controlled by foreign investors (although the Reserve Bank of India followed suit with its guidelines on the matter only about a month ago). Under that policy, the key test applied to determine whether one company (say A) controlled another (say B) was to consider whether Company A had the ability to appoint a majority of its directors on Company B. Such an ability to appoint a majority of directors can arise in two ways. First, it can arise if Company A owns a majority of equity shares in Company B. Second, it can arise if Company A has additional rights in the articles of association of Company B (or possibly in a shareholders agreement), which conferred it with the ability to appoint a majority of the directors. This was an objective test, with sufficient clarity to determine whether there was control or not in a given situation.
On the other hand, the Takeover Regulations promulgated by the Securities and Exchange Board of India (SEBI) carry a wider definition of control. It includes the ability of Company A to “control the management or policy decisions” of Company B, which may arise directly or indirectly, including by virtue of the shareholding, management rights, shareholders agreement or the like. This is arguably subjective in nature, and could encompass situations such as negative veto rights and other protective provisions where Company A may not necessarily have the intention to exercise any control over the functioning of Company B, but may unwitting be caught within the web of the provision.
After a reconsideration of the existing policy on the definition of control under the FDI regime, the government has decided to expand the definition of control under that the regime in order to bring it in line with the Takeover Regulations. In other words, and objective definition of control under the FDI regime has given way to a more subjective definition.
As we have seen earlier on this Blog, such a subjective definition of control is not without its fair share of problems. These have manifested themselves in the working of the Takeover Regulations, and have also resulted in litigation in the form of the Subhkam case, although resolution finally turned out to be elusive in that case.