Introduction
An acquisition triggering disclosures or open offer requirements does not solely occur through the purchase of shares or voting rights but can also happen when the acquirer seeks significant influence, i.e., ‘control’ over the company. This is evident from investment documentation where investors can exercise rights concerning decision-making on ‘reserved matters’ as outlined in shareholders agreements. These rights could entail an affirmative vote or a veto and may be exercised at the board meeting level through their nominee director or at the shareholder level. In cases where the acquisition involves a minority voting right or a shareholding percentage, the question arises as to whether such rights still constitute a change in control, thereby triggering open offer requirements.
Determination of Control
“Control” is defined under Regulation 2(e) of the Securities Exchange Board of India (“SEBI”) (Substantial Acquisition of Shares and Takeovers) Regulations, 2011[1] (“Takeover Code”) as: “control includes the right to appoint a majority of the directors or to control the management or policy decisions exercisable by a person or persons acting individually or in concert, directly or indirectly, including by their shareholding or management rights or shareholders agreements or voting agreements or in any other manner: Provided that a director or officer of a target company shall not be considered to be in control over such target company, merely by holding such a position.”
According to Regulation 4 of the Takeover Code, any acquisition, whether of shares or voting rights, that grants control over a target company must prompt the acquirer to publicly announce an open offer.[2] This implies that gaining control over the target company will inevitably require an open offer.
Interpretation of the term “control” by SEBI
Understanding what constitutes control is crucial because the acquisition of control can trigger open offer requirements. Lawyers specializing in securities law often address client inquiries. About their transactions, providing insight into whether their actions would prompt an open offer obligation due to gaining control.
SEBI’s journey in interpreting “control” has been intriguing and unfortunately, there is no bright-line test like the share acquisition test of 25% in case of acquisition of control. This is why it is important to understand the interpretation of the term to appropriately advise clients.
Control under the Takeover Code is assessed qualitatively, considering the specific circumstances of each case. However, this approach has been met with scepticism from various market participants, including companies, investors, and legal practitioners, as it grants SEBI considerable discretion in determining control. SEBI has endeavoured to refine the broad definition of control to address these concerns.
- In the Jet/Etihad case of 2014[3], where Etihad Airways sought to acquire up to 24% of Jet Airways’ equity shares, SEBI deliberated whether this acquisition would grant Etihad Airways joint control over Jet Airways.
In this instance, Etihad Airways obtained the right to appoint 2 out of 12 directors on Jet Airways’ Board of Directors as per the investment and shareholders’ agreement. However, SEBI noted that aside from this appointment right, Etihad Airways was not granted any other affirmative, veto, quorum, or casting rights. Consequently, SEBI concluded that the authority to appoint 2 directors out of 12 did not alone constitute ‘control’.
Accordingly, SEBI laid down two tests that should be followed to identify control:
- The acquirer should have a right to appoint a majority of the directors; and
- The acquirer has a right to control the management or policy decisions.
In 2016, SEBI floated a Discussion Paper on “Brightline Tests for Acquisition or ‘Control’ under SEBI Takeover Regulations”[4] Seeking public comments on the issue. The paper highlighted the problems that could arise if ‘control’ was not clearly defined. Essentially, it talked about a scenario where there would be ambiguity and confusion in the market when different regulators arrive at different results. Two options were proposed in that discussion paper-
- A framework of protective rights be formed, or
- A threshold for control at 25% and above be set.
However, it was the opinion of most stakeholders to not amend or dilute the definition of “control” as it may trickle down to other laws. Therefore, SEBI continued with the practice of ascertaining control on a case-to-case basis.
In the SEBI Order against Vishvapradhan Commercial Private Ltd in the matter of NDTV.[5] SEBI examined a loan agreement between the promoters (who were supposed to make an open offer) and Vishvapradhan Commercial Private Limited (“VCPL”). The promoters were seeking a loan to finance the open offer and the loan agreement contained several clauses which included matters of conversion of a loan to equity shares; prior writer consent of VCPL in several matters such as issue of equity shares, buyback of shares, mergers and amalgamations; a call option; and most importantly, VCPL having the rights to impose non-disposal at NDTV level. SEBI, after reviewing the transaction documents, held that this was not a pure loan financing agreement but an acquisition by VCPL. Accordingly, SEBI ordered VCPL to make an open offer to the shareholders of NDTV within 45 days from the date of the order.
Supreme Court’s attempt at streamlining the interpretation
In SEBI v. Subhkam Ventures Private Ltd.,[6] The Supreme Court of India intervened to clarify the concept of control but failed to offer definitive guidance, leaving this area devoid of any judicial precedent.
Herein, the Securities Appellate Tribunal (“SAT”) encountered a situation where an acquirer sought to obtain 19.91% of the Target Company. SAT determined that the investor’s right to nominate one director from a group and veto rights did not constitute control. However, SEBI disagreed and appealed to the Supreme Court. Despite overturning SAT’s decision, the Supreme Court did not conclusively address the matter, leaving the legal question unresolved. Nonetheless, the Supreme Court upheld SAT’s reasoning, affirming that “control” refers solely to positive control, and that the ability to block special resolutions does not amount to control.
Interestingly, in the matter of ArcelorMittal India Private Limited v. Satish Kumar Gupta & Ors.[7] Supreme Court reiterated that control under the Takeover Code is a proactive power and not a reactive power. Therefore, positive power will amount to control, not negative power. Veto rights are mere protective rights that investors would want to have to ensure that no dilution of their shareholding takes place. It may not carry the intention to control the target company.
CCI’s differing definitions of control
The concept of control under SEBI’s Takeover Code has always faced a clash with the interpretation of the term by the Competition Commission of India (“CCI”). CCI is also required to analyze acquisitions/mergers/amalgamations and observe whether any acquisition/ transfer of control is taking place which would thereby require CCI’s due approval.
The CCI has interpreted control to mean the ability to exercise decisive influence over the management of affairs and strategic commercial decisions of the target enterprise. This influence can be exercised by way of majority shareholding, veto rights, or contractual terms.
Under the Competition Act, ‘control’ has been defined in the explanation proviso of Section 5 wherein it refers to the affairs of a company being run by a sole person/group or joint person/group.[8] Unlike SEBI, the CCI in its decisional practice has held that any of the following actions present in an investment agreement may amount to control:
- The right to nominate even one director on the Board.
- Affirmative rights.
- Veto Rights and participative rights.
Therefore, the threshold for control is much lower in the case of scrutiny by CCI. Such difference can be because of the differing objectives of the two regulators. The objective of SEBI is to allow the shareholders of the company to exit if there is a change in the management and operations of the company; but for CCI the objective is to preserve healthy competition in the market and protect traders, consumers, market economy in that particular sector, etc.
Conclusion
In conclusion, SEBI is not acquiescent to a rule-based test but employs a multifaceted approach to assess “control” under the Takeover Code, considering factors like the right to appoint directors, manage operations, and influence policy decisions. This evaluation includes various elements such as affirmative rights, quorum rights, consent for mergers and amalgamations, and casting vote rights. While experts advocate for a balanced approach to determining control acquisition, recognizing both numerical thresholds and subjective criteria, they also emphasize the importance of clarity and predictability for public shareholders. Nonetheless, the inherently elusive nature of control necessitates regulatory discretion. Therefore, while striving for clarity, regulators must acknowledge the inherent complexities and uncertainties associated with defining and interpreting control in corporate transactions.
Author(s) Name: Tanya Sharma (USLLS, GGSIPU, New Delhi)
References:
[1] SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011, Regulation 2 (e).
[2] SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011, Regulation 4.
[3] SEBI Order WTM/RKA/CFD-DCR/17/2014 in the matter of the acquisition of shares of Jet Airways (India) Limited, Available at: <https://www.sebi.gov.in/sebi_data/attachdocs/1399545948533.pdf>accessed 07 July 2024.
[4] SEBI, Discussion Paper on “Brightline Tests for Acquisition of ‘Control’ under SEBI Takeover Regulations”
2016, Available at: <https://www.sebi.gov.in/sebi_data/attachdocs/1457945258522.pdf>accessed 07 July 2024.
[5] SEBI Order against Vishvapradhan Commercial Private Ltd. (VCPL) in the matter of NDTV, Available at: <https://www.sebi.gov.in/enforcement/orders/jun-2018/order-against-vishvapradhan-commercial-private-ltd-vcpl-in-the-matter-of-ndtv_39359.html> accessed 07 July 2024.
[6] 2011 SCC OnLine SC 37.
[7] 2018 SCC OnLine SC 1733.
[8] The Competition Act, 2002, sec 5, No. 12, Acts of Parliament, 2002 (India).
