The Corporate & Commercial Law Society Blog, HNLU

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  • The Legal Conundrum: Is A New Mandatory Offer Possible During An Existing One? – II

    The Legal Conundrum: Is A New Mandatory Offer Possible During An Existing One? – II

    BY TANMAY DONERIA, FOURTH YEAR STUDENT AT RGNUL, PATIALA

    This article is published in two parts, this is the Part II of the article.

    Having discussed the key provisions under the Takeover Regulations and the conundrum arising therefrom, the following part delves into the interplay of Regulation 3, Regulation 20 and Regulation 26 of the Takeover Regulations while exploring the possible situations that might arise during such a transaction and suggest recourses available to the third party.

    II. Possible situations arising out of the interplay between regulation 20 and 26. 

    As highlighted earlier, we have two possible situations to examine with respect to the issue at hand. Firstly, when the conversion occurs during the period of 15 days and secondly, when the conversion occurs after the period of 15 days but before the completion of the offer period. Let us analyse these two situations in detail.

    –       When the Conversion Occurs During the Period of 15 Days i.e., 12.10.2024

    We shall assume a situation where the conversion of securities held by XYZ Ltd. occurred on 12.10.2024 i.e., during the 15 days provided for competing offers. If we were to undertake a hyper-technical interpretation of Regulation 20(5), we find that it only creates a bar on the announcement of an open offer after the expiry of 15 days provided for competing offers till the completion of the offer period. It does not take into account a situation wherein the obligation to make an open offer arises during the abovementioned 15 days period. But because the intent behind the provision is to prevent overlapping or simultaneous offers, we find that even in situations where the obligation to make an open offer arises during the 15 day period this restriction would be applicable. Hence, we are arriving at the same question, what should the third party do in such a scenario?

    At this juncture, it is important to appreciate the definition of ‘convertible securities’ under Regulation 2(1)(f) of the Takeover Regulations, which provides that the conversion may occur “with or without the option of the holder”. This is extremely relevant to understand as it will help us in determining whether the third party has breached the threshold under Regulation 3(1) willingly or not. This would further result in two different situations i.e., when the conversion happens without the option of the holder (compulsory conversion) and when the conversion happens with the option of the holder (optional conversion). 

    –       Compulsory Conversion

    • Compulsory conversion may occur in the case of mandatory convertible bonds, compulsorily convertible debentures (‘CCDs’), or preference shares (‘CCPS’). These types of securities get converted at a predetermined time without the option of the holder of such securities. This would mean that the third party had not voluntarily triggered the requirement to make a mandatory open offer under Regulation 3(1).
    • In such a situation, it would be appropriate to allow the third party to fulfil its obligation under Regulation 3(1) without engaging in involuntary competition with the original acquirer regarding offer size and offer price. Such an interpretation would be business-friendly and promote ease of doing business. 
    • In this context, it is suggested that the third party should be given a deference or relaxation and be allowed to make a mandatory open offer after the completion of the offer period. Such relaxation can be given to the third party within the ambit of Regulation 11 of the Takeover Regulations, which provides SEBI with the discretionary authority to exempt or provide relaxation from procedural requirements in the interest of the securities market. Regulation 11(2) specifically allows SEBI to “grant a relaxation from strict compliance with any procedural requirement under Chapter III and Chapter IV” upon the receipt of an application from the third party in terms of Regulation 11(3). Since Regulation 13under Chapter III dictates the time when the announcement for the open offer is to be made for Regulation 3, it is possible to grant such relaxation. The same is evident from the TRAC report which states that “SEBI would also continue to have the discretion to give relaxation from strict compliance with procedural requirements”. 
    • For example, in our situation, if XYZ Ltd. acquires shares on account of compulsory conversion and breaches the threshold limit under Regulation 3(1) it shall make an application under Regulation 11(3) to seek appropriate relaxation under Regulation 11(2).

    –       Optional Conversion

    Optional conversion may occur in the case of optionally convertible debentures (‘OCDs’) or optionally convertible debt instruments and other similar types of securities. These types of securities get converted voluntarily at the option of the holder in pursuance of their express choice and not at any predetermined time. Optional conversion is indicative of the holder’s willingness to trigger the provisions under Regulation 3(1).

    In such a situation, it would be appropriate that the third party who has voluntarily triggered the provisions of a mandatory open offer should be obligated to engage in raising a competing offer and conditions with respect to offer size and offer price should apply accordingly. In other words, the requirement of making a mandatory open offer should be complied with by making a competing offer and conditions concerning offer size and offer price as applicable on a competing offer should also apply to the third party.

    This raises another legal question, whether a mandatory open offer can be considered as a competing offer. In this regard, it is pertinent to note that Regulation 20(3) creates a legal fiction that a voluntary open offer made within the 15 day period should be considered a competing offer. The substance of the provision dictates that if an open offer by whatever name it may be called is made voluntarily/willingly within 15 days it should be treated as a competing offer. In furtherance of the same, it is possible to argue that if the requirements of the mandatory open offer are being triggered voluntarily/willingly by the third party on account of optional conversion, the same can be considered within the scope of Regulation 20(3), rendering the mandatory open offer as a competing offer. It is to be noted that in order to accommodate this interpretation appropriate amendments to the Takeover Regulations will be required. 

    Hence, in this context, if XYZ Ltd. acquires shares and breaches the threshold limit under Regulation 3(1) on account of optional conversion, it can be said that XYZ Ltd. had willingly breached the threshold hence, the spirit of the law would dictate that XYZ Ltd. should make a competing offer and conditions with respect to offer size and price shall apply to them accordingly. 

    –       When the conversion occurs after the period of 15 days i.e., 18.10.2024

    If the conversion, whether option or mandatory, occurs after the expiry of 15 days and the obligation to make a mandatory open offer is triggered, the third party who had acquired shares on account of convertible securities cannot make a public announcement for an open offer due to the statutory bar imposed by Regulation 20(5). 

    In such a situation, the third party may take recourse under Regulation 11 as mentioned earlier and make an application to SEBI in accordance with Regulation 11(3) to seek appropriate relaxation and deference in terms of Regulation 11(2) to make the mandatory open offer and comply with Regulation 3 after the completion of the offer period. This will ensure that the third party does not contravene the Takeover Regulations and fulfil their obligation imposed by Regulation 3(1). The same will be consistent with the intent of the provision as it will prevent any overlapping or simultaneous open offers and avoid any unnecessary troubles for the shareholders as well.

    III. Conclusion

    In light of the aforementioned discussion, it can be said that our legal conundrum cannot be expressly solved by simply applying the provisions contained in the Takeover Regulations. But, we can state that the conundrum arising out of the interplay between Regulation 3(1), Regulation 20(5) and Regulation 26(2)(c)(i) can be solved by understanding the underlying intent of the provisions, and applying the rule of contextual interpretation and harmonious construction.

    The interpretation as advanced in the previous sections will accommodate better investor protection, provide exit opportunities to the shareholder and promote ease of doing business in the country by protecting the interests of the acquirer. Currently, such a situation is purely academic in nature but it is not improbable for such a situation to emerge in real-world transactions.

  • The Legal Conundrum: Is A New Mandatory Offer Possible During An Existing One? – I

    The Legal Conundrum: Is A New Mandatory Offer Possible During An Existing One? – I

    BY TANMAY DONERIA, FOURTH YEAR STUDENT AT RGNUL, PATIALA

    This article is published in two parts, this is the Part I of the article.

    I. Introduction: Understanding The Context And Conundrum

    The Securities and Exchange Board of India (‘SEBI’) implemented the Substantial Acquisition of Shares and Takeover Regulations, 2011 (‘Takeover Regulations’) with the intent to provide exit options for the shareholders of public-listed companies, regulate the acquisition of direct/indirect control in a company and hostile takeovers. These regulations were implemented on the recommendations of the Takeover Regulations Advisory Committee (‘TRAC’). Before delving into the specifics, we need to understand certain provisions.

    –       Understanding Key Provisions

    Regulation 3(1) of the Takeover Regulations, provides that any acquirer who has breached the threshold of 25% voting rights in a public listed company (also known as the target company) shall make a public announcement for an open offer. This is also known as a “mandatory open offer”. The intent behind this provision is to facilitate/mandate the complete acquisition of the target company or allow the acquirer to gain control of the target company. Furthermore, it also provides an exit option for the shareholders, who are granted an opportunity to sell their shares and exit the target company in case they disagree with the acquirer holding a significant stake in the company. It is to be noted that an acquirer may also announce an open offer even before breaching the requisite threshold or even after completing the mandatory open offer, in order to acquire more shares or voting rights. Such an offer is known as a voluntary open offer in terms of Regulation 6. 

    Pursuant to the public announcement due procedure is followed and an open offer is floated in the market. Thereafter, Regulation 20 provides an opportunity for other interested parties to raise competing open offers within 15 days from the date of publication of the open offer. Regulation 20(3), deems any voluntary open offer made within 15 days from the open offer to be a competing offer. The provision for competing offers is beneficial for the shareholders as well as the target company. From the perspective of the shareholders, this process allows them to get the best prices for their shares, and from the perspective of the target company, this allows them to bring in a friendly investor and resist the hostile takeover, also commonly known as the ‘white-knight defence’. Furthermore, to minimize confusion for the shareholders and prevent overlapping or simultaneous open offers in the target company Regulation 20(5), mandates that after the completion of the aforesaid 15 days, no person is “entitled to” make a public announcement for an open offer or “enter into” any transaction that will attract an obligation to make an open offer till the completion of the offer period.

    Lastly, during this entire process Regulation 26, restricts the target company from entering any material transactions during the offer period outside the ordinary course of business without obtaining the consent of the shareholders through a special resolution. This ensures that no impediment arises during the acquisition process and the same is successfully completed. But there also exist certain exceptions that allow the target company to honour their obligations that were entered prior to the initiation of the acquisition process. The exception relevant to our discussion is found in Regulation 26(2)(c)(i), which permits the target company to issue or allot shares upon conversion of convertible securities issued prior to the announcement of the open offer. Having understood the legal provisions let us take a look at the problem being created by the interplay of these provisions.

    –       Illustration of the Conundrum

    Let us consider a situation, where the acquirer (ABC Ltd.), has breached the threshold of 25% of shares of the target company (TC Ltd.) and consequently, published a mandatory open offer under Regulation 3(1) after following the due procedure on 1.10.2024. Now other interested parties have 15 days i.e., time till 16.10.2024 to raise competing offers.

    A third party (XYZ Ltd.) holds 23% of shares and certain convertible security, that was purchased a long time ago, entitling them to 3% of shares. Hence, upon conversion XYZ Ltd. will hold 26% of shares of TC Ltd. Herein, we shall consider, two situations i.e., firstly, when the conversion occurs during the period of 15 days, let’s say on 12.10.2024 and secondly, when the conversion occurs after the period of 15 days but before the completion of the offer period, let’s say on 18.10.2024 (more on these two situations later). In both situations, XYZ Ltd. holds more than 25% of shares, making them liable to announce a mandatory open offer under Regulation 3(1).

    As noted, earlier Regulation 20 only permits competing offers within the period of 15 days when there is a subsisting open offer. Additionally, Regulation 20(3), only deems voluntary open offers as competing offers i.e., mandatory open offers are not covered within the ambit of this provision. Lastly, Regulation 20(5) specifically prohibits any person from making an open offer after the expiry of the 15 days till the completion of the offer period.

    This gives rise to an absurd situation where XYZ Ltd. who is under a statutory obligation (under Regulation 3(1)) to make an open offer cannot fulfil such obligation as at the same time the regulations (under Regulation 20(5)) are themselves barring them from making an open offer. In other words, XYZ Ltd. is being statutorily barred from fulfilling a statutory obligation. Such a situation gives rise to multiple questions such as- is the third party liable to make an open offer, if it does not make an open offer will there be penalties for non-compliance and what are the possible recourses with the third party in such a situation?

  • The Religare-Burman Saga: A Wakeup Call To Review Our Takeover Code?

    The Religare-Burman Saga: A Wakeup Call To Review Our Takeover Code?

    BY AAKRITI RIKHI, THIRD YEAR STUDENT AT NATIONAL LAW SCHOOL OF INDIA UNIVERSITY, BENGALURU

    I. Introduction

    On 10th July 2024, the Securities Appellate Tribunal (“SAT”) ordered Religare Enterprises Ltd. (“REL”) to comply with the Securities and Exchange Board of India (“SEBI”) order vis-à-vis the open offer by the Burman Group. This was in light of opposition by the board of directors (“Board”) of REL, the target company, to the proposed acquisition. The interim order by SEBI blocks all attempts by the Board to oppose such a takeover, even as the Board may act in the interests of the stakeholders of the company. [GA1]  The fundamental problem with this order is SEBI’s notion that the Board is accountable to the shareholders only (when a hostile bid is made) and not to all stakeholders of the company. 

    This decision in effect, solidifies the Indian position on hostile takeovers. Hostile takeovers are allowed as long as there is a compliance with the Substantial Acquisition of Shares and Takeovers (“SAST”) Regulations[GA2] , 2011. As per these regulations[GA3] , a limited set of responsibility is upon the Board of the target company, which is owed to the shareholders only. Upon a public announcement of an open offer for acquiring shares of the target company, the Board of the target company cannot act on the offer [R24] without the approval of the shareholders. This, I argue, is extremely constraining. Considering the shift towards the stakeholder model as codified by Section 166 of the Companies Act, 2013[GA5]  (“the Act”), it has become necessary to bestow some scope to act to the Board in the case of a takeover. The current legal framework has not accounted for this shift and as a result, there is a clear imprint of the shareholder-primacy model. 

    This post proposes a re-evaluation of the current legal framework to bring it in line with Section 166 the Act. It does so by firstly, highlighting the problematic assumption of the SEBI order in Religare. Secondly, it rebuts this assumption through a brief analysis of the model followed by India vis-à-vis the duties of directors and finally, using this analysis, it argues for empowering directors with the scope to act during hostile takeovers. 

    II. Analysing the SEBI order: An imprint of the shareholder model

    In the case of REL, prior to the public announcement for acquisition of more shares, the acquirers held 21.54% shares of REL. With the proposed acquisition, the shareholding of the acquirer would have increased beyond 25%, triggering an open offer under Regulation 3(1) and 4 of the SAST Regulations, 2011[GA6] . In relation to this open offer, the Board of REL had constituted a Committee of Independent Directors, which had raised objections to the proposed acquisition, on the ground that the acquirers were not ‘fit and proper’ persons for acquiring shares in the target company. There was no evidence provided in support of these allegations.

    In its interim order, SEBI held that the refusal of the target company to seek statutory approvals from regulators, which would enable the acquirers to discharge their legal obligations and provide an exit option to shareholders in the open offer, defeats the objects of the law and goes against the established canons of corporate governance. As per SEBI, the management of the target company is a representative of the shareholders and cannot act against their rights and interests.

    This ignores the fact that directors owe fiduciary duties to the company and not merely to the shareholders. The fundamental problem with this order is the assumption that shareholders are the only decision-makers of the company. By accounting for only the shareholder’s interests, the order renders the stakeholder model of the present statute otiose and is problematic for the target company. 

    This is symptomatic of our present legal framework for hostile takeovers as the following section will explain.

    III. Duties of Directors during a hostile takeover under the current legal framework

    During an acquisition, the management of a listed company is duty bound to act in the interests of its shareholders under broader corporate governance norms, enshrined in the provisions of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015. Regulation 4(2) imposes a mandatory duty on the listed company to protect and facilitate the exercise of the rights of shareholders. This is also reflected in the SAST Regulations 2011. As per Regulation 26(2) of SAST Regulations, the Board of the target company cannot take any substantive action without a special resolution of the shareholders. Further, the Board has to constitute a committee of independent directors to provide reasoned recommendations on an open offer. These recommendations have to be provided to the shareholders of the target company. The Board only exercises an advisory role wherein it has no choice but to facilitate the acquirer in the open offer process. This is consistent with the U.K. Takeover Code. This code has enshrined similar provisions on the duty of the Board in case of a takeover. This is termed as the ‘non-frustration rule’. This rule is established to set aside the management when hostile bids are imminent so that the shareholders have the final say on the merits of the bid. 

    In the Indian context, the rationale for this lies in the structure and organisation of companies. Indian companies typically have concentrated shareholding. They have founding families ‘promoters’ with dominant shareholding positions. This, it has been contended[R27] , blocks against a hostile takeover. As a result, there was no contemplation over promoters not holding large stakes while bringing these regulations. Furthermore, there is an assumption implicit in this rationale that the promoters owe a statutory duty to the company as they are endowed with the scope to act in case of a takeover and not the Board. As the next section establishes, it is ultimately the directors who owe a statutory duty to the company and not the promoters. 

    IV. Section 166: A codification of the stakeholder model

    Section 166 of the Act lays down the duties of directors. This was the first time that India had codified the duties of directors[R28] . Section 166(2) highlights who these duties are owed to. It has been contended that the wording of this provision indicates a concrete shift from the shareholder primacy model to the stakeholder model. The shareholder primacy model is based on the theory that the Board of directors derives its powers from the shareholders and therefore, the role of directors is to promote the interests of the shareholders. The stakeholder model views the company’s activities as affecting the society in genera[R29] l. It emphasizes that the role of a company’s directors is not limited to maximising shareholder value but also to account for the interests of other stakeholders, without prioritising one over the other. Therefore, to summarise, the shareholder-primacy model prioritises the interests of the shareholder at the expense of others in the company. It only recognises the profit-driven stake of the shareholders while the stakeholder model situates the company in the larger society.

    Historically, India has fluctuated between these models. During the colonial and the post-Independence period, we adhered to the shareholder model. With the 1960s socialist era, the company was beginning to be seen as having a public character so, we shifted towards the stakeholder model. But, with the 1990s liberalisation policies, we reverted back to the shareholder primacy model. As a result, there was a recognition that directors owe a fiduciary duty to the existing shareholders. This was reflected in the Companies Bill, 2009 [R210] wherein clause 147(2) recognised that directors owed duties to carry on the business of the company “for the benefit of its members as a whole” i.e., the shareholders. This was later amended by the Parliamentary Standing Committee, which recommended the inclusion of Section 166(2). 

    The UK on the other hand, followed a different trajectory. Through section 172 of the UK Companies Act, 2006 the enlightened shareholder value model was adopted. This is a variation of the shareholder primacy model where directors are required to have regard to non-shareholder interests as a means of enhancing shareholder value over the long term. So, a hierarchy has been created wherein the shareholder interests are at the top while stakeholder interests remain at the bottom. This interpretation of Section 172 has been upheld recently by the UK Supreme Court as well. 

    Overall, it can be seen that India casts a positive duty on directors to account for other stakeholders whereas UK considers this to be a secondary consideration (if a consideration at all). In light of this duty, it becomes imperative to empower directors to act against a hostile bid. 

    V. Why should directors have scope to act against a hostile bid?

    India’s shift towards the stakeholder model signifies that a body which is accountable to the company and its stakeholders shall exercise the broader decision-making power of the company. When seen in this context, it is apparent that the rationale of allowing the promoters to act does not necessarily hold water. This is because promoters do not owe any statutory duty to the company. The 2013 Act prescribes only two duties of promoters: duty not to make secret profit and duty to disclose to the company any interest in a transaction.[i] This is quite limited when compared with the duties of directors under Section 166. Further, in the case of a promoter being a majority shareholder, there are only two restrictionsprescribed by the Act: limit on the power to alter the MOA and limiting the power from committing fraud on the minority.

    More specifically, in the context of a takeover, there is no mandate imposed on the promoter/shareholder to take into account stakeholder interests. Whereas by reading the duties of directors to include the scope to act in a takeover, there will be a positive duty imposed on them. This becomes significant as a takeover can impact other stakeholders such as employees adversely. For instance, during the Mindtree acquisition by L&T, there was the risk of a cultural mismatch as Mindtree followed an informal culture while L&T followed a command-and-control and top-down management. We can clearly see that by empowering only promoters with control to act in a takeover, there can be severe consequences as they are not bound to account for the interests of other stakeholders. 

    Therefore, India can no longer afford to continue following the non-frustration rule of the UK Takeover Code. The rule still works for the UK because it has adhered to the shareholder primacy model. It no longer works for India as our understanding of a company is that of an entity having a public character. This is evident from the mandatory CSR obligations under Section 135 of the Act. 

    VI. Conclusion

    The purpose of this post is to prompt a review of our takeover-friendly SAST Regulations. Our present law is located at one end of the spectrum as it completely prohibits any action by directors during a hostile takeover. However, we are at a unique position where we can attain a balanced position by providing some scope to directors to act while formulating a standard of review of directors’ actions under Section 166. If we continue with our current framework, we are likely to run into problems as in the case of Religare wherein the directors have no choice but to delay the inevitable through vague mechanisms. 

    [i] Erlanger v. New Sombrero Phosphate Co., (1878) LR 3 App Cas. 1218, 1236, Gluckstein v. Barnes (1900) AC 240. Also note that Sections 34 and 35 of the Companies Act impose liability for untrue statements in prospectus and sections 339 and 447 impose liabilities on promoters for fraudulent trading. 

  • Rationalizing ‘Connected Persons’: Analyzing SEBI’s Proposed Insider Trading Amendments

    Rationalizing ‘Connected Persons’: Analyzing SEBI’s Proposed Insider Trading Amendments

    BY PRIYA SHARMA AND ARCHISMAN CHATERJEE, Fourth AND third YEAR STUDENTS AT NATIONAL LAW UNIVERSITY, ODISHA

    I. Introduction 

    Securities and Exchange Board of India (‘SEBI’), in the consultation paper dated 29 July 2024 (‘consultation paper’), proposed amendments to the SEBI (Prohibition of Insider Trading) Regulations, 2015 (‘PIT Regulations’) to rationalize the scope of ‘connected person’. The consultation paper proposes to add additional categories to the current definition of connected persons in the PIT Regulations, and thereby cover more persons who may have access to unpublished price sensitive information (‘UPSI’) by virtue of their relation with an insider.

    While the proposed amendments will help SEBI target additional persons and raise a presumption of possession of UPSI against them, the existing ambiguities in the insider trading legal framework will increase the likelihood of false positives and overregulation in this arena.

    II. Proposed Amendments

    Under the PIT Regulations, an insider is defined as any person who is either a connected person or is in possession of or having access to UPSI. Presently, a ‘connected person’ is defined as a person who is or has, during the six months before the act, been associated with the company, directly or indirectly, in any capacity [Regulation 2(1)(d)]. The relationship with the ‘connected person’ may be contractual, fiduciary or employment-related, and may be temporary or permanent, that allows them access to UPSI or is reasonably expected to allow such access. The PIT Regulations also specify certain categories ‘deemed to be connected persons’, including immediate relatives of the connected person, a holding or associate company or subsidiary company, etc. within its ambit. 

    UPSI is defined as “any information, relating to a company or its securities, directly or indirectly, that is not generally available which upon becoming generally available, is likely to materially affect the price of the securities”. A person who falls under the scope of a ‘connected person’ will be presumed to have access to UPSI, and the person will carry the onus to disprove this presumption. If a person does not fall under the scope of a connected person, the onus to prove access to such information will lie on SEBI.

    The consultation paper notes that certain categories of persons, who have a close and proximate relationship with connected persons, may not be covered under the present definition of ‘connected person’. Therefore, it proposes to replace the term ‘immediate relative’ in section 2(1)(d)(a) with the term ‘relative’. It also proposes the inclusion of additional categories of people who will be deemed to be connected persons, including any person on whose advice, directions or instructions a connected person is accustomed to act, a body corporate whose board of directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a connected person, persons sharing household or residence with a connected person, and persons having material financial relationship with a connected person including for reasons of employment or financial dependency or frequent financial transactions. 

    In order to ensure ease of doing business, the definition of ‘immediate relative’ is proposed to be retained for the purpose of disclosures, and the definition of ‘relative’ is rationalized only for establishing insider trading.

    III. The Good: Targeting a Regulatory Gap

    The changes are proposed with the aim to include persons who may seemingly not occupy any position in the company but are in regular contact with the company and its officers. By virtue of this relationship, such persons may be aware of the company’s operations and get access to UPSI. 

    Under the current regime, the scope of connected persons does not include non-immediate relatives of the person. ‘Immediate relative’ includes the spouse of a person, parent, sibling, and child of such person or of the spouse, any of whom is either financially dependent on this person or consults such a person in making decisions relating to trading in securities. Under the proposed amendments, the term ‘relative’ would include spouse, siblings, siblings of spouse, siblings of parents, any lineal ascendant or descendant of the individual or spouse, or spouse of any of the mentioned persons. Evidently, the new definition will include many more persons.

    Many relevant relations remain uncovered in the present terminology, which requires that either (a) the mentioned person be financially dependent on such a person, or (b) consults such a person in making decisions relating to trading. Such facts are difficult to prove, as they involve the family’s internal affairs, and make it difficult to establish the presumption of insider trading. 

    For illustration, under the current regime, if A is a connected person, B, the father-in-law of A’s sister who lives in another city with her husband’s family, would not be deemed to be an insider unless he fulfills the criteria mentioned in the definition. The proposed amendments would bring B under the ambit of ‘deemed to be connected person’ since he is a lineal ascendant of the sister’s spouse. No other criteria are required to be fulfilled.

    The proposed amendments formulate a comprehensive definition of ‘relative’, much like the Income Tax Act, 1961, and do not limit it to immediate family members. This proposed change promises a stricter, and stronger, regulatory regime.

    IV. The Bad and the Ambiguous: Pre-existing issues

    Section 15G of the SEBI Act specifies that any individual who enters into a trade on the basis of UPSI would be penalized for insider trading. The emphasis here is on the term basis since it showcases the requirement of mens rea for the liability to be attracted. On the other hand, Regulation 4 of the PIT Regulations states that if any individual executes any trade while in possession of UPSI, the liability for insider trading shall be attracted. 

    In this regard, the Supreme Court, in Balram v SEBI, observed that ascertaining the intent of individuals is necessary to affix the liability for insider trading. On similar lines, in Abhijit Rajan v SEBI, the apex court highlighted the need to determine the profit motive of the individuals who are in possession of the UPSI. This showcases a clear conflict between the specific wording of the PIT regulations and the interpretation of the court in terms of the presence of mens rea and increases differences in interpretations. 

    If the proposed changes are implemented, many more individuals would be deemed to be connected persons, and the presumption of access to UPSI will be raised against them, even if the access is factual or not, or any mala fide intent to act upon it is present or not. For instance, B, being the father-in-law of A’s sister, who may be deemed to be a connected person by virtue of being a relative if the proposed amendments are made, is able to overhear certain UPSI at a family function, and despite the same, he sells his shareholding as he intended to do so even before possessing the UPSI. In such a scenario, B could still be liable for insider trading under PIT Regulations even though there was a lack of intent and profit motive. 

    Therefore, the present regulatory framework showcases the lack of uniformity and clarity about the threshold for attracting liability for insider trading, and the issue will be exacerbated if the definition of ‘deemed to be connected persons’ is widened. Additionally, such a low threshold (no mens rea required, according to the PIT Regulations) to hold a person liable might lead to false positives, which in turn may overburden SEBI as well as the accused persons. In fact, it was advised by the N. K. Sodhi Committee, which was formed to review PIT Regulations of 1992, that a defense should be incorporated into the provisions which would allow the insider to prove that the alleged illegal trade has an effect which is opposite to what the UPSI requires for one to draw an unfair advantage.

    To address this, we suggest implementing a higher threshold for those connected persons who are very remotely connected to the primary insider and a lower threshold for those who are directly connected. The current framework treats all immediate persons on the same footing. For instance, an individual who came into accidental possession of UPSI might get prosecuted for the offence of insider trading. 

     The incorporation of a threshold on the basis of a higher burden of proof or requirement of mens rea (possession or usage) could increase the efficiency of the framework. To elucidate, for proving insider trading in the case of relatives by birth, the mere possession of UPSI should be enough to hold them guilty, and the opposite can apply in case of relatives by marriage. Similarly, the burden of proof required to prove their innocence should be lesser for relatives by marriage and the contrary for those related by blood. Such a framework is more effective than the proposed changes, as it does not automatically deem ‘immediate relatives’ as connected persons (as is the case in the present scenario), and instead, creates comprehensive criteria for the regulator to implicate relatives in actions against insider trading. Moreover, SEBI should not overlook profit motive as mens rea and refine the insider trading provisions in the PIT Regulations, bringing it more in line with the Act. Lastly, the addition of more defenses in Regulation 4, such as those recommended by the Sodhi Committee, may help dilute the adverse impacts of the proposed amendments. 

    V. Conclusion

    While the proposed amendments aim to broaden the scope of ‘connected persons’ to encompass those in close proximity to insiders, thereby strengthening regulatory oversight, they also introduce challenges. The potential for increased false positives and ambiguities surrounding the intent requirement highlight ongoing concerns within the insider trading legal framework. To mitigate these issues, SEBI must strike a balance by refining definitions, clarifying thresholds for liability, and incorporating defenses against inadvertent breaches. Such measures are essential to uphold both the integrity of the securities market and the rights of individuals ensnared in the regulatory net.

  • From Hearsay to Hard Facts – SEBI’s Crackdown on Rumour Verification

    From Hearsay to Hard Facts – SEBI’s Crackdown on Rumour Verification

    BY RITUNJAY SINGH AND SEJAL SINGH, FIFTH-YEAR STUDENTS AT RMLNLU, LUCKNOW

    Introduction

    On May 17, 2024, the Securities Exchange Board of India (‘SEBI’) announced a pivotal change by notifying the SEBI (Listing Obligations and Disclosure Requirements) (Amendment) Regulations, 2024 (‘2024 Amendment’). The amendment brings notable updates to the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (‘LODR Regulations’) by mandating Market Rumour Verification (‘MRV’) by listed companies, particularly those that lead to material price movement (‘MPM’).

    Understanding the Regulation and its Evolution

    The 2023 Amendment focused on triggering rumour verification upon a ‘material event’ occurrence but failed to define ‘material event’, leading to unclear compliance requirements. Consequently, SEBI proposed the formation of an Industry Standards Forum (‘ISF’) by industry associations in July 2023. By August 2023, the ISF, a collaboration between the Associated Chambers of Commerce, the Confederation of Indian Industry, and the Federation of Indian Chambers of Commerce and Industry, was established to formulate standards for implementing specific circulars and regulations. This collaboration resulted in a Consultation Paper released in December 2023, which laid the groundwork for the 2024 Amendment.

    The 2024 Amendment builds on this foundation, which initially mandated MRV but delayed its enforcement. The new regulations mandate rumour verification for the top 100 listed entities from June 1, 2024, and aim to extend it to the top 250 listed entities from December 1, 2024. The entity must verify specific market rumours reported in mainstream media that lead to MPM, usually within 24 hours from the trigger of MPM. General or vague rumours do not necessitate a response. It shall be specific to the industry consisting of unpublished information. 

    Mainstream media includes Indian newspapers with substantial circulation and readership, their digital versions, designated online news sources, and select international newspapers and news channels. It excludes news sources behind paywalls, news aggregators, and social media platforms, except for verified accounts of recognised news sources. Such focused delineation may presumably provide entities with a manageable scope to monitor. However, excluding social media platforms may leave gaps in differentiating facts from fiction, as seen in the Sadhna Broadcast pump-and-dump controversy, where rumours on social media and YouTube videos artificially inflated stock prices, causing investors losses once the stock inevitably crashed. A similar scenario occurred in the infamous Reddit-fuelled GameStop frenzy, where a coordinated effort by retail investors caused an unexpected stock surge, defying traditional market expectations and forcing hedge funds into massive losses. Furthermore, SEBI’s recent efforts to caution the public against dealing with unregulated entities and clamping down on the association between regulated entities and ‘finfluencers’, SEBI acknowledges this pervasive influence. Excluding such platforms from rumour verification leaves a blind spot in the regulatory framework.

    Having mentioned price volatility, it is crucial to understand MPM. The Bombay Stock Exchange (‘BSE’) and the National Stock Exchange (‘NSE’) introduced the MPM Framework to standardise its assessment, providing clear criteria for its calculation. It considers the cut-off percentage to price variation in share price between the closing price of the previous trading day and the next trading day’s opening price, excluding the benchmark index’s impact (e.g., NSE’s NIFTY 50 and BSE’s SENSEX). Additionally, intraday price movements are analysed, focusing on volatility throughout the trading day rather than just the opening versus closing prices. This responsibility of identifying the MPM rests with the listed entity, which may delegate this role to a designated officer. Owing to the constant fluctuation in stock prices, notifying the listed entity regarding the MPM necessitates a sophisticated technology-based solution. Going forward, service providers will likely offer these alert systems to companies. The lookback period i.e. the timeframe within which companies must retrospectively examine previous market rumours that might have induced an MPM is not specified, allowing companies to tailor their verification procedures flexibly to ensure a thorough and context-appropriate assessment.

    On May 21 2024, SEBI released another circular regarding the “framework for considering the unaffected price for transactions upon confirmation of market rumour.” This framework calculates the unaffected price by excluding the effect of MPM and rumour confirmation on equity share prices. In mergers and acquisitions, if parties’ names are non-disclosable due to confidentiality, the unaffected price is valid for 180 days from rumour confirmation; if names are disclosable, it’s valid for 60 days post-confirmation (Paragraph 5.2.2). If the price variation due to rumour confirmation hits the price band on the next trading day, subsequent trading days’ price variation is included for adjustment until it no longer hits the price band. For example, if ‘A’ trades at Rs. 100 per share and a rumour about acquiring ‘B’ causes the stock price to rise to Rs. 400 per share, later proving untrue and falling to Rs. 50 per share, the rumour period causing the fluctuation is determined. The average stock price of ‘B’ prior to the rumour, over a fixed period (e.g., six months), is analysed. If this average is Rs. 100 per share and market trends align, the unaffected price is Rs. 100 per share. This benefit only applies if the rumour is confirmed within 24 hours of MPM.

    Bridging the Gaps: A Vision for the Future

    The 24-hour timeframe provided under Regulation 30(11) not only seems insufficient to locate the exact source of the rumour in order to effectively address it, given the vast trenches of media requiring navigation; but also, proves to be a very small window to provide the public with the necessary documents that support its confirmation or denial. Something similar took place in the short-selling saga of the Adani-Hindenburg case, wherein even after their quick response within 24 hours, Adani’s stocks continued to tread downwards. Moreover, such a stringent timeline could attract regulatory scrutiny under the PFUTP Regulations in the accidental case of a hasty and, incorrect disclosure. Conversely, the NYSE Manual allows the confirmation of a rumour without the ticking 24-hour time clock, alleviating any pressure and allowing the company to make an accurate statement that verifies the accuracy of a rumour without the risk of any regulatory repercussions for incorrect disclosures.

    Furthermore, in the event of a merger and acquisition, a Non-Disclosure Agreement, which more often than not governs these negotiations, may act as a significant impediment to the Regulation, restricting the information that can be publicly shared. A premature confirmation or outright denial may attract a weaker negotiating position for the entity. While an argument can be made that a rumour may be surfacing owing to an already existing breach, that is not an argument strong enough for intentionally breaching confidentiality agreements. Henceforth, if a company were to deny a rumoured merger and later go through with it, investor trust could still very well be damaged. Some countries, like the United Kingdom (‘UK’), have a standstill period of 6 months under section 2(6) of the UK Takeover Code, in case a company does not verify a rumoured merger within 28 days. However, while this prioritises investor clarity and market stability, it is done at the expense of corporate flexibility and strategic planning. Companies might be forced into premature decisions that misalign with their timelines or negotiation strategies. A premature confirmation could also lead to a failed negotiation and wasted resources in case the deal does not go through.  Nevertheless, missing the 28-day verification window would result in being barred from making any such offers within the next six months, potentially missing out on opportunities.

    A balance can be restored by allowing the company to delay disclosures if an immediate clarification poses potential harm. This postponement ensures that an entity can manage sensitive information without being forced into a premature disclosure that could disrupt ongoing negotiations. The same is ensured by Chapter 3 of the European Union Market Abuse Regulation. However, this ability to delay does not come without oversight. Entities choosing to delay shall have to provide regulators with an explanation for the same, demonstrating how exactly it aligns with their legitimate interests, thereby preventing the misuse of the provision for any unfair competitive advantage. Similarly, vis-a-vis leaving room for corporate flexibility, SEBI can also take note of Part III of Appendix 7A of the Corporate Disclosure Policy of Singapore that carves out exceptions to disclosure due to market rumours: (a) The information to be disclosed doesn’t breach any law (Rule 703(2)); (b) The issuer can temporarily refrain from publicly disclosing particular information if a reasonable person would not expect it to be disclosed, and the information is kept confidential (Rule 703(3)). This comes with the caveat of maintaining the strictest confidentiality to prevent leaks.

    Conclusion

    SEBI’s attempts to balance transparency and accountability are evident, even addressing possible concerns via its Guidance Note, including handling speculations regarding a Managing Director/Chief Executive Officer’s health. Yet, as noted earlier, the indeterminate lookback period tips the scales slightly against corporations. By adopting a more structured approach akin to international practices, Indian entities could be better equipped to safeguard their legitimate interests while maintaining investor confidence. Such regulatory evolution could demystify market speculations, enhance stability, and bring India’s disclosure standards into closer alignment with international standards, safeguarding the truth in trading.

  • The Boundaries of Judicial Intervention In Arbitration: Navigating Section 34

    The Boundaries of Judicial Intervention In Arbitration: Navigating Section 34

    BY MANAV PAMNANI, THIRD-YEAR STUDENT AT NALSAR UNIVERSITY OF LAW, HYDERABAD

    Introduction

    Recently, a three-judge bench of the Supreme Court (‘SC’) in the case Gayatri Balasamy v. ISG Novasoft Technologies Ltd. (‘Gayatri Case’) decided to refer the matter regarding court modification of arbitral awards to a Constitution Bench. This comes in light of the relatively unsettled legal position regarding the power of a court to amend or modify an arbitral award under section 34 of the Arbitration and Conciliation Act, 1996 (‘Act’). Against the backdrop of multiple conflicting decisions over the course of several years, the judgement in the Gayatri case, which is yet to be pronounced, is expected to settle the position. However, there is a discernible trend that can be observed lately with the majority of court decisions holding that the court does not have this power.

    The epitome of this is the landmark judgement delivered in National Highways Authority of India v. M. Hakeem (‘Hakeem Case’), wherein the SC declared that the court under section 34 has no jurisdiction to modify the arbitral award as doing so, will amount to crossing the line (Lakshman Rekha) under the guise of judicial interpretation of statutes. 

    One of the most recent SC decisions that upheld the several precedents mentioned was delivered on 4th January 2024 in the case of S.V. Samudram v. State of Karnataka. The SC, in this case, held that any attempt to modify or amend an arbitral award while adjudicating section 34 and section 37 petitions is not permissible. A modification can be effected only by the SC in the interests of justice under Article 142 of the Indian Constitution, provided such a modification is in tandem with relevant statutory laws.

    The power under section 34 of the Act extends only to the setting aside of an award under the grounds specified in sub-section (2), which include incapacity of the parties, invalid arbitration agreement, lack of proper notice, decisions beyond the scope of arbitration, improper tribunal composition or procedure, or if the Court finds the subject matter non-arbitrable or the award in conflict with India’s public policy. With the intention of analysing the intricacies of section 34, this article explores the rationale behind the restriction on court modification, its implications, and potential solutions to address the inherent challenges.

    The Rationale Behind the Restriction on Court Modification

    The most plausible rationale is the express exclusion of such a power from the purview of section 34 of the Act. This power was explicitly included under section 15 and section 16 of the erstwhile Arbitration Act of 1940 but has been omitted under the current statute. As explained in  Larsen Air Conditioning and Refrigeration Company v. Union of India, this reflects the intention of the Legislature to amend the law pertaining to modification. Adopting a contrary approach would undermine the very purpose of excluding this power, making such an interpretation unsound. An analysis of the law in other jurisdictions like England, Singapore, Australia, and the United States reveals that such power has expressly been conferred under the respective statutes, which is not the case in India. Moreover, the purpose of Section 34 is to set aside awards on the basis of procedural or jurisdictional issues, whereas modification involves re-evaluating the substantive merits of the tribunal’s decisions, which deviates from the provision’s principal intention. This reasoning was given in the Hakeem Case mentioned previously, wherein the SC held that section 34 is not like an appellate provision. Considering it to be so is fallacious since it will violate section 115 of the Civil Procedure Code 1908, which deals with revisional jurisdiction. Moreover, the Court stated that since the right to get the award set aside is itself very truncated, the enforcement of such a right should also be very limited in nature. The SC further observed that section 34 of the Act aligns with the UNCITRAL Model Law,  which confers no modification power to a court hearing a challenge to an award, as well as the legislative policy of minimal judicial interference in arbitral awards.

    A deeper substantive analysis of arbitration’s fundamental tenets also results in the same conclusion. Firstly, arbitration aims to provide a speedy and cost-efficient resolution to disputes, and allowing courts to modify awards would undermine this objective by leading to protracted litigation involving high costs akin to traditional court proceedings. The grant of such a power would also vitiate the core principle of party autonomy,  by allowing external interference in the parties’ agreed-upon process of resolving disputes through chosen arbitrators, thus potentially undermining their autonomy to determine the terms and conditions of the resolution process.

    Additionally, it would be against the interests of efficiency and specialisation to give this power to courts since arbitrators are often chosen for their specific subject matter expertise, and judicial modification could devalue this specialised knowledge, as judges may lack the same expertise level in the given subject matter. Lastly, on a practical level, limiting court intervention to setting aside awards rather than modifying them, helps conserve judicial resources and reduces the burden on the court system. 

    Implications

    The restriction on this power ensures the finality and certainty of arbitral awards, promoting confidence in arbitration as a preferred dispute resolution method. Parties can rely on the arbitral process knowing that awards, once issued, are less susceptible to judicial interference beyond specified grounds for setting aside, which can also be cured by the Tribunal itself under section 34(4) of the Act, thus reinforcing the pro-arbitration approach. This stability enhances the enforceability of arbitral awards, both domestically and internationally, which is crucial for businesses operating in a globalised economy. 

    However, the restriction also presents challenges, particularly in cases where an award contains minor errors or miscalculations that do not warrant setting aside the entire award but still require correction for fairness. Parties may feel aggrieved if they cannot seek judicial correction of such errors, potentially leading to dissatisfaction and increased challenges to awards. Although they have the right to approach the SC for modification under Article 142, this is not feasible if the modification required is not substantial. Moreover, the power under Article 142 is also restricted.

    Thus, the binary approach of either upholding or setting aside the entire award limits available remedies, potentially leaving parties with incorrect or unfair outcomes. This may compel them to initiate fresh arbitration proceedings to rectify errors, increasing costs and delays, and undermining arbitration’s efficiency goals. Furthermore, dissatisfaction with limited recourse may lead to more appeals and litigation, increasing judicial workload and contradicting arbitration’s purpose as a swift and efficient dispute resolution method. Balancing finality with the need for fairness and efficiency remains a critical challenge in the arbitration landscape, necessitating thoughtful reforms and procedural enhancements to address these concerns effectively.

    Potential Solutions

    Legislative clarity through well-drafted guidelines should be achieved through amendments that grant courts limited powers to correct errors in awards. This would align with international practices, allowing selective corrections without compromising award finality. This is the practice in the United Kingdom wherein the power of courts to modify awards is largely restricted to limit judicial intervention and uphold fundamental principles of arbitration. Additionally, emphasising enhanced arbitration agreements can empower parties to include internal review mechanisms, such as appellate arbitration panels or expedited procedures, to address errors or ambiguities. This approach would minimise judicial intervention.

    Opting for a three-member tribunal instead of a sole arbitrator can also improve decision quality and reduce the need for modifications. Moreover, ensuring that arbitrators have relevant expertise is crucial for sound decisions. Judicial guidance should also clearly differentiate between grounds for setting aside an award and situations needing corrections, thus ensuring consistency and transparency in judicial decisions.

    An increased use of section 34(4), allowing the tribunal to make necessary modifications, can also be beneficial since it limits judicial intervention, alongside effectuating the required changes. This balancing act, along with other solutions, if effectively implemented, will contribute towards a robust arbitration framework.

    Conclusion

    The evolving jurisprudence surrounding section 34 underscores clear judicial intent to preserve the finality and autonomy of arbitral awards by restricting courts from modifying the same. The accepted position is largely clear, with numerous precedents establishing that courts do not have this power. The Gayatri Case, as mentioned in the beginning, is likely to follow this established norm.  While this approach bolsters the integrity and efficiency of arbitration, it also presents challenges that necessitate thoughtful reforms, particularly in addressing minor errors that do not justify setting aside an award. A more balanced and effective arbitration framework can be established by implementing legislative amendments, enhancing arbitration agreements, providing judicial guidance, and leveraging the tribunal’s powers under section 34(4). Such measures will ensure that arbitration remains a preferred method for dispute resolution, combining finality with fairness and efficiency, thus bringing about a balanced framework. 

  • Settlement Agreements and Section 12A Withdrawals: A Comparison with Section 230 of the Companies Act, 2013

    Settlement Agreements and Section 12A Withdrawals: A Comparison with Section 230 of the Companies Act, 2013

    BY ARSHIA ANN JOY AND ADITI SINGH, FOURTH-YEAR STUDENTS AT NUALS, KOCHI.

    Introduction

    A liquidation order is passed as per the Insolvency and Bankruptcy Code 2016 (“IBC“)  when the Corporate Insolvency Resolution Process (“CIRP“) falls through, and the company cannot be revived within the stipulated timeline. However, courts, over time, have interpreted that issuing a liquidation order is not to be treated as a death sentence to the company and its operations. This is because the ultimate aim of the IBC is to facilitate the revival of the company if it is a feasible option. This further implies that the order permitting an entity’s liquidation can be reversed if the petition initiating CIRP proceedings is itself withdrawn. Section 12A was introduced in the IBC in 2018 to allow settlements between the Corporate Debtor (“CD“) and the creditors by allowing withdrawal of proceedings, with 1035 such withdrawals recorded till December 2023.

    This article explores the legality of allowing the withdrawal of proceedings after issuing the liquidation order, when a settlement agreement is reached. The authors also look at how the lack of procedural clarity surrounding the acceptance of the settlement agreement leads to difficulties in reviving the CIRP if the settlement agreement fails. Further, solutions are suggested through a comparison with section 230 of the Companies Act, 2013 (“CA”), which facilitates arrangements aiming at debt restructuring and thereby resolving the financial crisis of the company. The authors argue that allowing the Adjudicating Authority (“AA”) to thoroughly analyse the settlement agreements while admitting section 12A applications, similar to the procedure envisaged in section 230 of CA, would be a step in the right direction in addressing the ambiguities surrounding the withdrawal of CIRP and revival of proceedings, if need be.

    Reversibility of a Liquidation Order and Withdrawal of Proceedings Post Issuance of Liquidation Order

    The parties are said to have arrived at a settlement agreement if the CD agrees to pay the creditor an agreed sum to resolve the conflict. Once a settlement agreement is reached after a liquidation order is passed, the parties can approach the AA under section 12A and withdraw the proceedings initiating CIRP. The primary intention behind introducing section 12A is to recognise post-admission settlement cases in line with statutory provisions. 

    The NCLAT, in Navaneetha Krishnan v. Central Bank of India, settled the law on reversibility of a liquidation order. It was held that even during the liquidation period, if any person satisfies the Committee of Creditors (“CoC”) , and CoC accepts the said offer with a 90% voting share, such a person may apply for a withdrawal of the proceedings before the AA.

    In 2019, the NCLAT, in a similar case, emphasised the importance of allowing the promoters/shareholders to arrive at a settlement as per section 12A. In such cases, the application seeking initiation of CIRP can be withdrawn. The Supreme Court in Vallal RCK v. Siva Industries held that the wisdom of the CoC in approving a settlement plan must not be interfered with by the AA unless such a decision was wholly ‘capricious, arbitrary, irrational and de hors the provisions of the statute or the Rules.’ In this case, the CoC had failed to approve the proposed resolution plan with the requisite 66% majority. Subsequently, the Resolution Professional filed an application under section 33(1)(a) of IBC seeking liquidation of the entity pending which the promoter of the CD approached the AA with a settlement plan. The AA had, in turn, refused to approve it without giving due regard to the 90% majority decision of the CoC to go ahead with the settlement plan. 

    More recently, in 2022, the NCLT analysed the rationale put forth in Navaneetha Krishnan and Vallal RCK to conclude that even after the order of liquidation is passed, the application for withdrawal of proceedings may be allowed. In this case, the liquidator had received a settlement proposal from the promoter of the CD duly approved by the CoC with the requisite majority. 

    The NCLT Chennai Bench rightly noted:

    “Thus, it could be seen that even during the liquidation process, the parties have arrived at a settlement, then the application filed under Section 7, 9 and 10 can be withdrawn. Consequently, the CIRP and the liquidation initiated against the CD also stand withdrawn.”

    Thus, the order of liquidation already passed does not hinder the AA from passing an appropriate order of withdrawal as per section 12A if all the requisite conditions are satisfied.

    The Dilemma: Applying Section 12A Post Issuance of Liquidation Order

    Although the law seems to be settled regarding the impact of section 12A on a liquidation order, the lack of procedural clarity has led to contradictory results in the past few years. 

    In Jayashree Mohan v. Pathukasahasram Raghunathan, the NCLT laid down the limited scope available for reviving an entity undergoing liquidation. It was stated that once the liquidation process is initiated, the entity cannot come out of the process except through the two avenues, namely, by way of a scheme under section 230 of CA or by sale as a going concern. In this case, section 12A is not seen as a potential avenue which could result in the revival of the entity once liquidation is initiated.

    Similarly, the NCLT Chennai bench in Narayan Maheshwari disallowed the withdrawal application made under section 12A while the liquidation process was going on. It was emphasised that section 12A was inserted in Part II of the IBC, which deals exclusively with CIRP and not liquidation. Since no specific amendment is made in the liquidation process regulations, an application for withdrawal under section 12A cannot be allowed post-issuance of a liquidation order. It was further held that in Navaneetha Krishnan, the application under section 12A was never filed during liquidation and that the ex-promoter of the CD had filed an application under section 230 of CA for approving a scheme of compromise. In this case, the NCLT has voiced its concerns regarding allowing withdrawal of proceedings once the order of liquidation has been passed as it might potentially lead to every suspended Director/Promoters waiting till the liquidation order to enter into a settlement agreement at a ‘throw away price.’

    The above rationale of the tribunals could hamper the prospects of reviving a company through settlement, just because the order of liquidation has been initiated against it, thus defeating the purpose for which section 12A was included in the IBC. The application of section 12A to Part III of the IBC has to be specifically inculcated in the regulations to put a rest to these contradictory judgements.

    Revival of CIRP in case of Failure of Settlement Agreement

    In  the cases where withdrawal of proceedings was allowed after issuing the order of liquidation, the stakeholders had agreed on a one-time settlement (“OTS”) or a settlement agreement. In Sudip Dutta, the NCLT, while analysing a catena of decisions including Navaneetha Krishnan stated that:

    “In the instant case, no application was filed under Section 12A of IBC since there was no OTS that was acceptable to the Respondent No. 2 bank.”

    As noted above, the application for withdrawal under section 12A is considered after the issuance of the liquidation order only when the CoC approves a settlement agreement with the requisite majority. 

    However, the procedure for accepting or analysing such a settlement agreement is not specified in the statute or the relevant regulations. As seen above, the commercial wisdom of the CoC is given primacy and judicial intervention is permitted only if the decision of the CoC was wholly arbitrary or capricious. Analysing whether the decision itself was arbitrary or capricious would, in turn, require the settlement agreement to be on the record, which might not happen in most cases, especially when the statute/regulations fail to mandate the same, as was noted by the NCLAT in Krishna Garg. 

    In this case, the CD did not adhere to the terms of the settlement agreement after the CIRP proceedings were withdrawn. The NCLAT refused to revive the CIRP proceedings because the settlement agreement terms were not filed or brought on record before it. The NCLAT in SRLK Enterprises categorically stated that IBC is not a recovery proceeding where parties can repeatedly approach the AA owing to the non-repayment of debt. Proceedings can be revived only if the settlement agreement has been brought on record and has been made a part of the order of withdrawal. The AA can revive the CIRP proceedings, if the settlement agreement has a clause which provides for the revival of CIRP proceedings upon failure of setttlement agreement. The AA need not specifically grant the liberty to revive the proceedings in such cases. This would also imply that if there is no such clause allowing revival, the parties may be granted the liberty to do so specifically, by the AA. These recent orders suggest that the settlement agreement need not always become a part of the order allowing the withdrawal of proceedings, thus complicating the revival of proceedings under the IBC later when the parties fail to adhere to the settlement terms.

    Additionally, in Vallal RCK, the Supreme Court noted how the CoC has entered into many ‘deliberations’ before accepting the settlement plan, and stated that the CoC decision is not ordinarily subject to judicial scrutiny. The analysis done by the court gets confined to checking whether the CoC has done enough ‘deliberations’ before approving the settlement agreement. This seems to be in stark contrast to the procedure followed under section 230 of CA, where the AA is empowered to delve deeper into the actual contents of the proposed scheme.

    Comparison with Section 230 of the Companies Act, 2013

    Even after passing the order of liquidation, if a scheme of Compromise demonstrates viability, feasibility, optimisation of the CD’s assets, and equitable consideration of creditors, the liquidator may submit an application under section 230 of the CA to the AA in a bid to revive the company. As per regulation 2B of the Liquidation Process Regulations 2016, a scheme of compromise and arrangement may be completed within 90 days post the order of liquidation. 

    Furthermore, clauses (2) to (10) of section 230 puts forth the powers of the AA in overseeing the admission of the scheme of compromise and arrangement. The AA is to be made aware of the latest financial position of the entity, the creditor’s responsibility statement, the auditor’s report on the fund requirements, the valuation report on the assets of the company, etc. Further, in SREI Equipment Finance Limited, the NCLAT observed that sections 230-232 cast an obligation on the AA to ensure that the scheme is not contrary to public policy and not prejudicial to the company’screditors and members. Greater checks and balances are put in place under section 230 of the CA while admitting a proposed scheme of compromise and arrangement even after a liquidation order is passed.

    Conclusion and Recommendations

    A similar procedural clarity on the AA’s oversight is absent when it comes to the role of the AA in a section 12A application involving a settlement agreement. Section 12A must specifically be made applicable to Part III of the IBC. Further, a time period may be mentioned in section 12A, similar to section 230 of CA, for accepting and analysing the settlement agreement once the AA has issued the order for liquidation. The regulations must also specify that the settlement agreement entered into must mandatorily be brought on record while withdrawing the proceedings so that revival of the CIRP can be made possible without much hassle if the said agreement falls through at a later stage.