Saturday, July 19, 2014

Guest Post: MCA Circular on Related Party Transactions

[The following post is contributed by Vinod Kothari and Shampita Das of Vinod Kothari & Co. They can be contacted at and respectively]

The Ministry of Corporate Affairs (MCA) drives what corporate India will do, or will not do, or will do with rudders and rigours, under the new Companies Act 2013. It was the 30th of the Circulars issued under the new law on 17 July 2014, only a few months after the new law has partly been brought into force. As the rigidities and absurdities of the law come to the fore, the MCA continues to come out with circulars to moderate and tone down the law, but often, the language is ambiguous, leaving corporate India looking for yet more clarifications to the clarifications. Sadly enough, if the classic rule of interpretation has been that the Parliament knew what it wanted to write, now the clue is – the MCA knew what the Parliament wanted to write.

MCA’s General Circular No 30/2014 sought to give clarity to the majority of the minority rule pertaining to related party transactions (RPTs) incorporated in section 188 of the Act. While the circular might have wanted to say that only such related party as is involved in the contract or transaction in question will be denied the right to vote in the meeting, it says so in such misty language. Sadly enough, now is the AGM season in the country – most companies have either obtained or are in the process of obtaining general meeting approvals for RPTs.

The Majority of minority rule in RPTs

Now-a-days abusive RPTs have become a common term used to signify the tactics adopted by majority shareholders, who in turn are related to the company, to divert the funds of the company. Thus, what rightfully should be used for enhancing the wealth of the shareholders gets diverted to benefit a handful of shareholders controlling majority of the decisions of the company.

To curb such abusive RPTs, the concept of the “majority of the minority” rule was introduced. Under this principle, RPTs would be deemed to be approved if a majority of the outstanding disinterested shareholders i.e. shareholders of the company who are not related party to the company, accent to such transaction. This principle is applied to ensure that the related party shareholders of the company are not misusing their position to benefit themselves at the cost of the minority shareholders.

Countries around the would have framed their policies in a restrictive manner so as to curb such abusive RPTs. Some precedents that are followed around the world are provided below:

United States

Clause 314 of NYSE Listed Company Manual considers the Audit Committee as an appropriate forum to review the related party transaction. The Exchange also reviews proxy statements and other SEC filings, disclosing RPTs and where such situations continue year after year, the Exchange after evaluation also determines whether such RPTs should be permitted to continue.

Under Regulation S-K of U.S. Securities Law, Item 404 requires public companies to disclose transaction involving amount of more than USD 1,20,000/- in which the related person is or has had direct or indirect material interest.

United Kingdom

Financial Reporting Standard-8 require companies to make adequate disclosures in their financial statements to draw attention to the possibility that the reported financial position and results may have been affected by the existence of related parties and by material transactions with them. Further, under the Companies Act, 2006, members’ approval is required for any transaction with the director or if the director is connected in such transaction.

Hong Kong

Rule 14A of Listing Rules of the exchange in Hong Kong requires companies to take prior approval of shareholders in case of connected transactions. Any connected person with material interest shall not be permitted to vote at the meeting on the resolution approving the transaction. The manual further requires that the Independent Board Committee of the company should appoint a financial adviser to advise the company’s shareholders about whether the terms of the connected party transactions are fair and reasonable and in the interest of the company and the shareholders as a whole.


The Singapore Exchange Listing Manual requires only disinterested shareholders to vote on any transaction involving interested person. “Interested Person” has been defined to mean a director, CEO or controlling shareholder and an associate of any of these.


The Bursa Malaysia Listing Requirements lay down provisions similar to Hong Kong. Rule 10.08 requires disclosure in case of a related party transaction to the Exchange where the value of the consideration is less than RM 2,50,000 or is a recurrent related party transaction, where the percentage ratio is 0.25% or more. Where any one of the percentage ratios  of a related party is 25% or more the company must appoint a Principal Adviser to ensure that such transaction is carried out on fair and reasonable terms and conditions and not to the detriment of the minority shareholders. The stated Requirement debar any interested director from taking part in board deliberations and abstain from voting on such related party transactions. Further, any interested director or major shareholder must ensure that connected persons abstain from voting on such related party resolutions in the general meeting.


Section 208 read with section 224 of the Corporations Act, 2001 of the Commonwealth of Australia provides that at a voting at general meetings on related party transactions, related parties of the public company to whom the resolution would permit a financial benefit must refrain from voting on such resolutions. However the Australian Securities & Investment Commission (ASIC) has the power to make a declaration for the purposes of section 224, allowing a related party or an associate of a related party to vote, if they are satisfied that it will not cause unfair prejudice to the interests of any member of the company.

Majority of minority rule under Section 188

Taking cue from various jurisdictions from around the world, the Companies Act, 2013 also provided for approval of RPTs through the majority of the minority rule. However the language of the section was such that, instead of disallowing the concerned or interested related party(s) to the resolution to vote, it implied that no related party of the company would vote on resolutions approving such RPTs. The second proviso to Section 188 has been reproduced below:

Provided further that no member of the company shall vote on such special resolution, to approve any contract or arrangement which may be entered into by the company, if such member is a related party;”

The phrase “such member is a related party” indicated that only members who were not related to the company could vote on such resolution while all related parties would refrain from voting in the general meeting, creating confusion on various grounds.

For instance, if 70% of the shareholding of a company was held by related parties, then only the remaining 30% could have voted on a RPT resolution. Now, if out of the 30% shareholding, 20% was held by single shareholder, the company would be at the mercy of such a shareholder for passing of the resolution. Even if the remaining 10% shareholders vote for the resolution, the resolution would still fail for want of a special majority. This would not give a true sense of the opinion of the shareholders.

Circular of 17 July

The MCA’s clarification Circular, in MCA’s usual way, tries to clear out the fog from the apparent construction of the meaning abovementioned second proviso to Section 188 of the Act.

The Circular states: “Thus, the term 'related party' in the above context refers only to such related party as may be a related party in the context of the contract or arrangement for which the said special resolution is being passed.”

It would be hard to know the meaning of “related party in the context of the contract or arrangement”. There is nothing called “related party to a contract”. Sec 2 (76) defines related party with reference to a company – the concept of related party to a particular contract is nowhere envisaged by the law. In addition, the concept of “related parties” anyways intertwines all entities which are related to the company. If A is related to company X, and B is related to company X, A and B automatically have a common economic interest – that is, Company X. The company is the cluster of common interests of all related parties.

The intent of the Circular seems clear, but not the language, confounded by such expressions as “such related party as may be a related party”. “Such related party as may be a related party” sums up into nothing. Also, no one can easily figure out what is “related party……in context of the contract”. For example, there is a contract with X’s subsidiary, can X’s holding company take a stance that the holding company  is not a “related party” in context of the contract? Was it not much easy to write what the writer might have meant – “the related party with whom the contract or arrangement is proposed”, etc?

Clause 49(VII) of the Listing Agreement

Now coming to the provision of the Listing Agreement in this regard. Para VII (E) to Clause 49 of the Listing Agreement provides that ‘All material Related Party Transactions shall require approval of the shareholders through special resolution and the related parties shall abstain from voting on such resolutions.’

The language of the Listing Agreement is a bit clearer than its counterpart. It provides that ‘the related parties’ shall not vote on RPT resolutions giving an implication that only the related party(ies) to such resolutions shall not vote on the matter.

Majority of minority rule diluted

Taking the advantage of the Circular, companies may completely dilute the majority of the minority rule by contracting with such related parties as have minimal shareholding in the company.

Let us understand this by way of an example: 70% of the shareholding of a company X is held by 3 related parties to X, viz. A, B and C in the proportion of 50%, 10% and 10%, respectively.  Further X ltd. frequently enters into transactions with A. In light of the Circular, apart from A, all the other shareholders of the company i.e. rest 50% can vote on such RPTs. Since the 20% shareholding of B and C would not be sufficient to pass the resolution, X ltd. may resort to diluting the shareholding of A to B and C so that X ltd. has the certainty of requisite majority to pass such RPTs without depending on the votes of the minority shareholders.


If the idea was to moderate the law, it would have been much simpler to think of an amendment. Several leading commentators are strongly advocating for a rewrite of the law including Mr. Omkar Goswami who is noted economist of the country. He correctly points out that the piece-meal ratifications and clarifications as brought out by the MCA will not serve the purpose of fostering a positive corporate environment. The law is flawed on numerous grounds to correct it by these numerous modifications and clarifications. Moreover the MCA cannot keep up with the role the Parliament and make amendments and modifications in the law of the law on its whims and fancies.

- Vinod Kothari & Shampita Das

Wednesday, July 16, 2014

SEBI Order in the Satyam Case

Facts and Sanctions

Yesterday, more than five years after the Satyam ex-chairman’s much talked about revelations, SEBI passed an order in the case against five individuals, being the ex-chairman, ex-managing director, ex-Chief Financial Officer, ex-Vice President Finance and ex-Head (Internal Audit). In the 65-page order, SEBI considers the various acts of these individuals in detail that include reporting fictitious bank accounts, fictitious invoicing and other matters that resulted in a misrepresentation of the financial position of the company to its investors.

The SEBI order itself is steeped quite heavily on the facts, which are only too well known given the extensive coverage the case have received through media reports and other commentaries. SEBI’s findings are summarized as follows:

132. … From the material available on record, I find that the noticees individually as well as acting in concert falsified the books of account and mis-stated the financials of Satyam Computers and thus portrayed a false picture of its published quarterly / annual results. They also provided false CEO/CFO certification, made various announcements and issued advertisements/ press releases on the basis of falsified and mis-stated financial position of the company. The notices also indulged in insider trading on the basis of unpublished price sensitive information (UPSI).

The order finds violations of the provisions of the SEBI Act as well as two different sets of regulations, being the SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to the Securities Market) Regulations, 2003 (the PFUTP Regulations) and the SEBI (Prohibition of Insider Trading) Regulations, 1992 (the PIT Regulations). On the PFUTP Regulations, it was found as follows:

135. It goes without saying that the financial position and networth of a listed company have direct bearing on its share price and trading behaviour of investors in its scrip, apart from impacting the reputation of the company. Thus, they have potential to influence investment decisions of the investors in the scrip of the company. Considering the facts and circumstances described in the [show cause notices], I am of the view that by creating and certifying the false and overstated financial results over the years as true and fair, the noticees have misled the investors of Satyam Computers. The acts and omissions of the noticees as found in this case were, in my view, clearly a device, scheme and artifice employed by the noticees to defraud in connection with dealing in securities of Satyam Computers and fall in the ambit of prohibited activities under section 12A(a) (b) (c) of the SEBI Act and regulation 3(b)(c) and (d) and regulation 4(1) and 4(2),(a),(e),(f),(k), and (r) of the PFUTP Regulations.

Similarly, a case of insider trading was found because the concerned ex-officials of Satyam Computers had traded in the company’s stocks while they were in possession of the information that the accounts of the company did not represent its true financial position.

SEBI’s sanctions carry two components. First, these individuals are restrained from accessing the capital markets for a period of 14 years. Second, they are required to disgorge the wrongful gains made by them to the extent of nearly Rs. 1,850 crores (Rs. 18.5 billion) with interest @ 12% per annum from January 7, 2009 till the date of payment.


The first question that arises from this order: is it too little, too late? Considering the fraud of such magnitude that shook the entire country, it appears inadequate that the regulatory process took five long years to reach some level of fruition. Swift action would have sent a clearer message regarding the intentions of the regulator. It is understandable that SEBI had to delay matters given the lack of cooperation from the parties involved. They used the fact of the ongoing criminal trial as an excuse to prolong SEBI’s regulatory process. SEBI’s concern for natural justice ended up providing greater leverage in terms of time to the parties. The order at this stage may do very little in terms of either reparation to the investors or deterrent to the errant parties, who may simply shrug their shoulders at the order. The remedy of disgorgement of profits may also not be of much avail if there are no assets remaining with the parties in order to meaningfully execute the order. The risk is that the order for disgorgement may remain on paper without much bite.

This order also speaks to the types of actions that might have an impact on cases of this kind. The first is a criminal action, which in this case is expected to see the light of day sometime in the near future. The criminal court is expected to deliver its verdict. The second is a regulator order of the kind SEBI has just passed, which imposes sanctions but is not penal in nature. The third is a civil action by affected parties (such as a class action), which is initiated with a view to compensate the victims. In the Indian context, it is clear that parties fear criminal actions more than any other, as witnessed in the present case too where the parties were busy defending themselves in that action and effectively paid short shrift to SEBI’s investigation. What receives least impetus is private shareholder action, which is evident in the Satyam Computers’ case as not a single shareholder in India has received any compensation from a court of law, although US investors have received settlement amounts from both the company as well as its auditors. All of these raise questions regarding the satisfactory nature of India’s legal regime to deal with corporate frauds of this kind.

As for the future, some of the lessons from the Satyam scenario have been incorporated into the corporate and securities law reforms such as the Companies Act, 2013 and the revised clause 49 of the listing agreement. While those would certainly result in a different outcome, it is not clear how superior they are in comparison with the erstwhile regime under which the Satyam case is being tried. 

Tuesday, July 15, 2014

RBI Reforms on Investment Instruments and Pricing

The Reserve Bank of India (RBI) has recently brought about two sets of related reforms that introduce much greater flexibility to foreign investors in investing in Indian companies that gets rid of some of the rigidity that hitherto existed. In terms of investment instruments, the RBI has permitted investment in partly paid shares and warrants. Additionally, it has also relaxed the pricing requirements for entry and exit for foreign investors.

Investment Instruments

Under the pre-existing regime, foreign investment was permitted under the usual route only for investment in fully paid shares and convertible instruments (such as debentures and preference shares) that were fully and mandatorily convertible. These could contain optionality clauses but without any right to exit at an assured price. This was to ensure that the investments under the foreign direct investment (FDI) policy came as close to equity shares as possible. Party-paid shares were virtually shunned, and warrants were permissible only under the Government approval route with not much clarity on what type of instruments or terms would be viewed favourably. This substantially limited the structuring options for investment instruments as far as foreign investors are concerned.

Through a notification issued yesterday, the RBI has brought both partly paid shares as well as warrants within the scope of the FDI policy thereby offering these instruments for investment by foreign residents. These instruments are now available for investment under the foreign portfolio investment (FPI) scheme as well. For both partly paid shares as well as warrants, a minimum of 25% of the total consideration amount is required to be brought in up front. For partly paid shares, the remaining amount must be paid within 12 months (except where the issue size exceeds Rs. 500 crores (Rs. 5 billion) in which case the period can be longer. In case of warrants, the remaining consideration must be brought within 18 months.

As regards pricing, for partly paid shares it must be determined up front. The usual pricing guidelines for equity shares would apply. For warrants, there is some additional flexibility. The notification states that the “price at the time of conversion should not in any case be lower than the fair value worked out, at the time of issuance of such warrants, in accordance with extant FEMA Regulations and pricing guidelines stipulated by RBI from time to time”.

Other requirements under the foreign investment policy such as sectoral caps must be complied with on the assumption that the partly paid shares or warrants are converted into fully paid shares.

These reforms are beneficial to the investors as well as Indian companies who wish to raise foreign capital on attractive terms. While it confers investors with some flexibility to make deferred payments, the stringent terms and conditions such as the maximum conversion period and pricing would ensure that the mechanism is not subject to abuse. Hence, the approach appears quite balanced.

Pricing Norms

For several years now, the RBI, as India’s foreign exchange regulator, has been controlling the price at which foreign investors may enter and exit India. RBI’s primary concern relates to the flow of foreign exchange that accompanies such entry and exit. Consistent with this rationale, it has been imposing minimum price (floor) at which foreign investors may invest in Indian companies and a maximum price (cap) at which they may exit from their investments. This philosophy continues to operate. However, what has been the subject of change in the method to determine the floor and the cap. Until 2010, the primary determinant was a formula set out by the erstwhile Controller of Capital Issues (CCI), which formula had outlived its utility. This was then replaced by the discounted cash flow (DCF) method. There has been a lot of debate about the relevance of each of these methods and how they fare against each other.

In the latest round of reforms, the RBI has done away with the prescription of any specific method altogether, and has decided to set forth some general principles for determination of the price. In an amendment to the FEMA Regulations, the floor and the cap are now set at a price:

… arrived at as per any internationally accepted pricing methodology for valuation of shares on arm’s length basis, duly certified by a Chartered Accountant or a SEBI registered Merchant Banker. The guiding principle would be that the non-resident investor is not guaranteed any assured exit price at the time of making such investment/agreements and shall exit at the price prevailing at the time of exit, subject to lock-in period requirement.

This represents an important shift wherein RBI has ceases to prescribe the specific method, and has instead decided to defer to the expertise of intermediaries such as chartered accountants and investment banks. It has prescribed general principles such as “internationally accepted pricing methodology” and “arm’s length basis”. It places the onus on the intermediary to devise the most appropriate methodology in a given set of facts and circumstances. This is somewhat similar to the approach followed by courts in the case of share exchange ratio and valuation to be arrived at in the case of mergers, demergers and restructuring where they are generally willing to defer to the expertise of the valuers. Courts tend to interfere only when there is a fundamental flaw in the process or a patent error.

This is a welcome move from a foreign investment perspective as it provides the necessary flexibility to investors who are no longer bound by a rigid rule that may not uniformly apply to every single case. At the same time, it imposes the onus on the companies and intermediaries to comply with internationally accepted methodologies and value on an arm’s length basis. The regulator seems to have left some room to interfere in case there has been an aberration from these guidelines.  In that sense, while the broad philosophy of maintaining a pricing floor for investments and a cap for exits continues abated, there is liberalization on the actual methodology for determining those prices.

The discussion in this post is based on an initial analysis of the relevant notifications. Greater details and issues may emerge going forward, which we will attempt to discuss in future posts.

For a detailed discussion on these issues, please see this discussion on The Firm – Corporate Law in India.

(I would like to thank our reader Shashank Bijapur for sharing some of the relevant gazetted RBI notifications)

Update – July 16, 2015: The revised pricing guidelines issued by the RBI on July 15, 2014 are now available here.

Saturday, July 12, 2014

Retrospective Tax Legislation and 'Small Repairs'

The Vodafone case—which, of course, is yet to be finally resolved—has triggered a debate in India about the legality and propriety of retrospective tax legislation. Much has been said about the latter but not very much about the former.

One issue that is often contested in relation to legality is whether the retrospective amendment is ‘clarificatory’. The reason this is important is not so much to ascertain whether the law should be construed to operate retrospectively—that question arises only if there is no express provision and one is seeking to rebut the presumption of prospectivity—but because it has a bearing on the validity of the law. The Supreme Court of India has called this the ‘principle of small repairs’ (the phrase appears to have its origins in an article in the Harvard Law Review). I discuss the cases on this subject in greater detail elsewhere ((2012) 5 SCC J-25)) but the underlying principle is essentially that it is easier to justify retrospective legislation if it simply confirms what should always have been the reasonable expectations of taxpayers. The best example (although not a tax case) is Zile Singh v State of Haryana. In that case, the State of Haryana passed a law seeking to disqualify those with more than two children from contesting certain elections but intended to provide a one-year amnesty. In the proviso granting the amnesty, the word ‘after’ was inadvertently used instead of the word ‘upto’ with the result a candidate was disqualified if he had more than one child until one year after the amendment but not thereafter. This was obviously not what the legislature had intended—and more importantly not what any candidate could reasonably have thought it had intended—and legislation correcting the error was construed to be retrospective by the Supreme Court. If it had been made expressly retrospective, a challenge to its constitutional validity would undoubtedly have failed.

Some of these issues—although in a different context—have been considered by the English High Court in its recent judgment in R (St Matthews (West Ltd)) v HMRC in which retrospective tax legislation (something of a rarity in the UK) was unsuccessfully challenged by the taxpayer. The Finance Act 2003 introduced what is now the ‘Stamp Duty Land Tax’ (‘SDLT’) regime in the United Kingdom. The essential scheme of SDLT is that a certain percentage of the consideration is payable as stamp duty on the sale of land used as a residence within the UK. When the Bill was being debated, a concern was expressed about potential double taxation if A enters into a contract to sell land to B, but B then (before completion) assigns the benefit of the contract to C, in whose favour A executes the conveyance. To avoid this risk, section 45 of FA 2003 provides that SDLT shall not be payable if there is an assignment, sub-sale and substantial performance of the original as well as the secondary contract.

The intention of s 45, as Mrs Justice Andrews notes at [12], ‘was to place the taxation burden on the person who is going to have the use and enjoyment of the property.’ But a number of ingenious tax avoidance schemes were devised to take advantage of this provision. One of these was called the Blackfriars scheme. Under this, A and B would exchange contracts for the sale of property at market value; B would agree to grant C (normally a connected person) an ‘option’ to purchase the property on the date when the original contract completes, for a price marginally higher than the SDLT threshold but at a fraction of the market value. Both agreements would be ‘substantially performed’—the first contract by completing and the second by B granting the option he had agreed to grant. It was said that s 45 therefore applied and that this transaction was outside the SDLT regime.

There were doubts about whether the Blackfriars scheme actually worked but the matter had not been tested when Parliament enacted retrospective amendments making it clear beyond doubt that the Blackfriars scheme did not work. The question was whether this retrospective amendment could be challenged as contrary to article 1 of Protocol 1 of the European Convention of Human Rights (‘A1P1’). A1P1 provides, in essence, that every person is entitled to the peaceful enjoyment of his possessions of which he may not be deprived ‘except in the public interest’. There was some doubt about whether A1P1 was engaged (see [43]–[52]) but the interest in the case for our purposes lies in Mrs Justice Andrews’ analysis of the position on the assumption that it was. The two requirements for validly depriving a person of his possessions are that the interference must be lawful and proportionate. Two factors, in particular, persuaded Mrs Justice Andrews that this retrospective amendment was clearly lawful and proportionate. First, a warning was given by the Chancellor of the Exchequer in 2012 that the Government would use retrospective legislation to invalidate any SDLT avoidance scheme in this specific context. Secondly, and especially in the light of that warning and measures taken in relation to other SDLT schemes, it could not be said that there was any legitimate expectation that this scheme would succeed:

65. In my judgment none of these arguments has any merit. In the wake of what was said by the Chancellor at the time of the 2012 Budget, any person who was well advised and who gave even cursory consideration to the issue must have appreciated that it was highly likely that once HMRC became aware of a variant on an existing tax avoidance scheme based on the transfer of rights rules in the FA 2003 which had been rendered ineffective as from the 2012 Budget, it would take swift action to put an end to the variant as from the same date.

It was also suggested that Parliament had not enacted similar retrospective measures to invalidate other SDLT avoidance schemes and that it was unlawful to attack just the Blackfriars scheme. This argument failed as well:

69. If other tax avoidance schemes unrelated to SDLT were not the subject of similar legislation it does not follow that there was anything arbitrary or capricious about this legislation or about its operation. Mr Beal’s riposte to that argument was that it is not open to the Claimants to seek to take advantage of an alleged failure by HMRC to apply the (same) correct tax treatment to someone else, because two wrongs do not make a right. I agree. Moreover since it is incumbent on Parliament to make decisions based on relevant facts and circumstances, no inferences can possibly be drawn from any decision not to make anti-avoidance legislation retrospective in unrelated areas, in which the relevant factors might well point towards a different conclusion being reached as to the proportionality of that approach.

The fundamental difference between Vodafone and cases of this kind—apart from the fact that Indian law arguably imposes greater restrictions on retrospective legislation than does English law—is that there was almost certainly a reasonable expectation that the transaction was not taxable: an expectation which the Supreme Court confirmed was based on an accurate analysis of the Income Tax Act, 1961, as it then stood. It is difficult to see how the principle of small repairs is attracted: the amendment appears to be neither repair nor small, notwithstanding its characterisation as ‘clarificatory’ in the Finance Act, 2012. But the case importantly illustrates that retrospectivity alone is not enough: much depends on exactly what the position was before the law was amended and whether a reasonable taxpayer would have thought that tax was not payable.

Wednesday, July 9, 2014

Guest Post: Disclosure of Shareholding & Insider Trading Regulations

[The following post is contributed by Yogesh Chande, Associate Partner, Economic Laws Practice. Views are personal]

In an order passed by the SEBI Adjudicating Officer against an employee (Noticee) of a listed company, it was held that the “Head of Human Resources” of a particular vertical of the company is also an “officer” within the meaning of the definition of section 2(30) of the Companies Act, 1956 read with the provisions of the SEBI (Prohibition of Insider Trading Regulations), 1992 (Regulations), and therefore was under an obligation to disclose the change in the shareholding  that exceeded the thresholds prescribed under the Regulations.

Regulation 13(2) and regulation 13(4) of the Regulations deal with disclosure of interest or holding in listed companies by director and officer of a listed company.

The Adjudicating Officer rejected the defences pleaded by the Noticee and imposed a penalty of INR 0.5 million on the Noticee.

The somewhat unique facts of this case were as follows:

1.         The listed company has eleven divisions.
2.         The Noticee held the position of head of the “Competency Development and Human Resource” function of the “Trade Marketing and Distribution” vertical of the Indian Tobacco Division of a listed company.
3.         The Indian tobacco division itself is one of the 11 business divisions of the company, which is further divided into “Cigarette Brands and Supply Chain and Trade Marketing & Distribution”, along with all the other divisions and departments, has its own human resource department.
4.         Each of the business divisions of the listed company has a separate human resources department, headed by a 'Head' of Human Resources, in addition to which there is a Corporate Human Resources department, the head of which is a member of the Corporate Management Committee.
5.         There are about 65 personnel in the company who are at the same level as the Noticee, and there are 42 personnel in the company who are above the Noticee in the hierarchy.

Upon perusal of the flowchart of the Human Resources function in the Trade Marketing & Distribution vertical of the listed company, the SEBI Adjudicating Officer found that the Noticee is the Head-Human Resource & Competency Development of the company.

The SEBI Adjudicating Officer also found that, the Divisional Manager - HR Operations, Divisional Manager - Competency Development, District human resources managers (N/S/E/W), the Assistant HR Managers - Operations, Manager - HR Systems and Processes, Manager Skilling & Employability, Asst Manager Training, Asst Manager Training, Asst. HR Managers (N/S/E/W), HR Officer - Frontline Performance are the personnel subordinate to the Noticee, which led to the conclusion that the Noticee is clearly holding a higher position capable of giving directions to her subordinates.

While levying the penalty, the SEBI Adjudicating Officer also relied upon the following judgement of the Hon’ble Securities Appellate Tribunal in Sundaram Finance Limited V. SEBI

A reading of the aforesaid definition makes it clear that it is an inclusive definition. Apart from what the word 'Officer' means, it includes all that is stated therein. In other words, the definition does not exhaust all persons who otherwise come within its ambit or scope. While the definition says that it includes the persons specified therein, it doesn't say who are all the persons who will come within the term. We are of the view that an 'Officer' means a person holding an appointment to an office which carries with it an authority to give directions to other employees. Thus, an 'Officer' as distinct from a mere employee is a person who has the power of directing any other person or persons to do anything whereas an employee is one who only obeys. Any person who occupies a position of responsibility in a company will be an 'Officer' and this has been clarified by the Department of Company Affairs, government of India as per its letter dated October 7, 1963.


This order of the SEBI Adjudicating Officer is likely to have repercussions on those listed companies which are hierarchical.

It is pertinent to note that, although the expression “designated employee” in the model code of conduct [Part A of Schedule I] prescribed under the Regulations, makes a reference to officers comprising the top three tiers of the company management, in the present case, there were not only about 65 personnel in the company who were at the same level as the Noticee, but there were 42 personnel in the company who were above the Noticee in the hierarchy.

Thus, apart from the companies which will have to give a careful reconsideration to the model code of conduct prescribed under the Regulations which they may have adopted in terms of the Regulations, the universe of employees who could potentially fall within the definition of the term “officer” will have to introspect and comply with the disclosure requirements prescribed under the Regulations, is likely to increase.

This will also ensure that, the company does not fall afoul of its obligations under the Regulations including the compliance officer. The onerous nature of responsibilities imposed by SEBI on the compliance officer under the Regulations has been confirmed by SAT on various occasions.

- Yogesh Chande