October 2013 Liberalized regime for acquisition of shares by non-resident promoters Short-circuiting volatility? RBI under the rejuvenated leadership of its new governor, Dr. Raghuram Rajan has further liberalized foreign investment norms in India through its circular no. 38 dated 6 September 2013 (Circular). The Circular has relaxed some of the restrictions imposed on non-resident shareholders of listed companies in India for acquisition of shares on the floor of a stock exchange. Prior to the Circular coming into effect, a non-resident shareholder who was not a QFI, FII or an NRI could not purchase shares on the floor of a stock exchange without prior approval of the FIPB. The Circular relaxes this restriction on existing non-resident shareholders of Indian listed companies who are currently in control of such companies. Such non-resident controlling shareholders will now be allowed to purchase additional shares of the Indian listed company on the floor of a stock exchange under the FDI regime. The pricing for such acquisition of shares would be as per the market price of the shares, depending on whether the transaction is executed under the bulk or block trade windows provided by SEBI. However, other restrictions as may be imposed under the FDI Policy on sectoral cap, entry route, reporting requirement, etc. would be applicable to such acquisitions. This move will assist non-resident promoters of listed companies to increase their shareholding in such companies. This move is another small step towards equal treatment of resident and non-resident promoters with respect to acquisition of shares of the listed companies they control. To check volatility on the stock market, SEBI has issued a circular revising the market halting circuit breaker limits for stock exchanges, with effect from The Prohibition on Front Running Front running is the act of buying or selling securities ahead of a large transaction so as to benefit from the subsequent price change. This is usually done by persons dealing in the market who have prior knowledge of such large transactions or by someone related to them. In its earlier ruling, Dipak Patel v. SEBI , the Securities Appellate Tribunal (SAT) relied on regulation 4(2)(q) of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003 (FUTP Regulations), to hold that front running done by intermediaries alone would be a fraudulent practice actionable under law. Overturning its earlier incorrect ruling, SAT has held in the case of Vibha Sharma v. SEBI, that 'front running' even by a person other than an intermediary is illegal. In this case, the offender traded shares a few hours in advance of when large volumes of the same shares were traded by her husband, an equity dealer working at and trading on behalf of a large public sector bank. SAT held that front running is always injurious to the market and must be punished whether done by an individual or an intermediary. Almost simultaneously on 6 September 2013, an amendment to the FUTP Regulations was notified, clarifying that the list of offences under regulation 4(2) is not exhaustive. Further even if the regulations do not list a particular act as 'fraudulent' or 'unfair trade practice' or describe such an act as being committed only by a certain category of persons, it will still be prohibited if the act falls within the general prohibition on fraud and unfair trade practices. Both developments will ensure that such fraudulent practices of front running will be dealt with severely by the regulator. 1 October 2013. These limits set out the maximum movement permitted in the indices during a trading session. At present, the circuit breakers are calculated on the basis of the levels attained by the index at the end of each quarter. The recent circular states that the stock exchange on a daily basis shall translate the 10%, 15% and 20% circuit breaker limits of market-wide index variation based on the previous day's closing level of the index. With the new computation mechanism in place, SEBI intends to narrow the limits and link the circuit breakers with more current daily market indices. The move seeks to limit the downward spiral of prices, either through a flash crash or because of a black swan event. In 2010, SEBI increased the minimum public shareholding (MPS) requirement from the then existing 10% to 25% for public listed companies. SEBI also obligated all non-compliant listed companies to increase their public shareholding to 25% by 3 June, 2013 and prescribed certain methods through which such companies could increase their public holding. By an order dated 4 June 2013 (MPS Order), SEBI imposed several restrictions on companies that were not in compliance with the MPS requirements. Subsequent to the MPS Order, many non- compliant companies wished to comply with the MPS norms with alternate routes including option to delist themselves from the stock exchanges. However, SEBI has taken an unnecessarily rigid stance in not permitting various routes it previously allowed for divestment by control persons. In the case of Gillette India, SEBI had earlier rejected the proposal to treat one of the promoters as a public shareholder but after various rounds of appeals and representations, SEBI by way of order dated 26 September 2013, agreed to the proposal of treating one of the Minimum Public Shareholding: The Saga Continues
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October 2013
Liberalized regime for acquisition of shares by non-resident promoters
Short-circuiting volatility?
R B I u n d e r t h e re j u ve n ate d leadership of its new governor, Dr. Raghuram Rajan has further liberalized foreign investment norms in India through its circular no. 38 dated 6 September 2013 (Circular). The Circular has relaxed some of the restrictions imposed on non-resident shareholders of listed companies in India for acquisition of shares on the floor of a stock exchange.
Prior to the Circular coming into effect, a non-resident shareholder who was not a QFI, FII or an NRI could not purchase shares on the floor of a stock exchange without prior approval of the FIPB. The Circular relaxes this restriction on existing non-resident shareholders of Indian listed companies who are currently in control of such companies. S u c h n o n - r e s i d e n t c o n t ro l l i n g shareholders will now be allowed to purchase additional shares of the Indian listed company on the floor of a stock exchange under the FDI regime. The pricing for such acquisition of shares would be as per the market price of the shares, depending on whether the transaction is executed under the bulk or block trade windows provided by SEBI. However, other restrictions as may be imposed under the FDI Policy on sectoral cap, entry route, reporting requirement, etc. would be applicable to such acquisitions.
This move will assist non-resident promoters of listed companies to increase their shareholding in such companies. This move is another small step towards equal treatment of resident and non-resident promoters with respect to acquisition of shares of the listed companies they control.
To check volatility on the stock market, SEBI has issued a circular revising the market halting circuit breaker limits for stock exchanges, with effect from
The Prohibition on Front Running
Front running is the act of buying or selling securities ahead of a large transaction so as to benefit from the subsequent price change. This is usually done by persons dealing in the market who have prior knowledge of such large transactions or by someone related to them. In its earlier ruling, Dipak Patel v. SEBI , the Securities Appellate Tribunal (SAT) relied on regulation 4(2)(q) of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003 (FUTP Regulations), to hold that front running done by intermediaries alone would be a fraudulent practice actionable under law.
Overturning its earlier incorrect ruling, SAT has held in the case of Vibha Sharma v. SEBI, that 'front running' even by a person other than an intermediary is illegal. In this case, the offender traded shares a few hours in advance of when large volumes of the same shares were traded by her husband, an equity dealer working at and trading on behalf of a large public sector bank. SAT held that front running is always injurious to the market and must be punished whether done by an individual or an intermediary.
A l m o s t s i m u l t a n e o u s l y o n 6 September 2013, an amendment to the FUTP Regulations was notified, clarifying that the list of offences under regulation 4(2) is not exhaustive. Further even if the regulations do not list a particular act as 'fraudulent' or 'unfair trade practice' or describe such an act as being committed only by a certain category of persons, it will still be prohibited if the act falls within the general prohibition on fraud and unfair trade practices. Both developments will ensure that such fraudulent practices of front running will be dealt with severely by the regulator.
1 October 2013. These limits set out the maximum movement permitted in the indices during a trading session. At present, the circuit breakers are calculated on the basis of the levels attained by the index at the end of each quarter.
The recent circular states that the stock exchange on a daily basis shall translate the 10%, 15% and 20% circuit breaker limits of market-wide index variation based on the previous day's closing level of the index. With the new computation mechanism in place, SEBI intends to narrow the limits and link the circuit breakers with more current daily market indices. The move seeks to limit the downward spiral of prices, either through a flash crash or because of a black swan event.
In 2010, SEBI increased the minimum public shareholding (MPS) requirement from the then existing 10% to 25% for public listed companies. SEBI also obligated all non-compliant listed companies to increase their public shareholding to 25% by 3 June, 2013 and prescribed certain methods through which such companies could increase their public holding.
By an order dated 4 June 2013 (MPS Order), SEBI imposed several restrictions on companies that were not in compliance with the MPS requirements. Subsequent to the MPS Order, many non-compliant companies wished to comply with the MPS norms with alternate routes including option to delist themselves from the stock exchanges. However, SEBI has taken an unnecessarily rigid stance in not permitting various routes it previously allowed for divestment by control persons.
In the case of Gillette India, SEBI had earlier rejected the proposal to treat one of the promoters as a public shareholder but after various rounds of appeals and representations, SEBI by way of order dated 26 September 2013, agreed to the proposal of treating one of the
Minimum Public Shareholding: The Saga Continues
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promoters as a public shareholder subject to certain restrictions as an additional method for compliance with the MPS norms. Further, in the case of Fresenius Kabi Oncology, SEBI had earlier restricted the company from its delisting process by imposing onerous restrictions on the promoters by increasing the minimum number of shares required to be acquired by the promoters for a successful delisting under SEBI (Delisting of Equity Shares) Regulations, 2009. However, the Securities Appellate Tribunal held that imposing additional conditions to the delisting offer by SEBI is not justified as the delisting is being done in the ordinary course of business.
The above two cases are examples of rigid resistance from SEBI in allowing companies to deploy alternate routes to comply with the MPS norms. Although, the above companies were finally allowed to use alternative measures, it was not before a prolonged opposition from SEBI. In relation to the MPS Order, SEBI has been taking a counter-productive stand of blocking alternate routes for compliance with the MPS norms instead of facilitating such routes for an early compliance with the MPS norms by all listed companies.
The Insurance Regulatory and Development Authority (IRDA) has now allowed insurers to invest in Category I AIFs and those Category II AIFs which would invest at least 51% of their funds in entities in the infrastructure or SME sector or in venture capital undertakings or social venture entities. IRDA by way of its Circular dated 23 August, 2013 has revised the earlier position whereby insurers could invest only in Category I AIFs that were engaged in infrastructure sectors or invested in medium, small and micro enterprises (SME) related opportunities. However, the Circular restricts insurers from investing in funds which use leverage or that are fund of funds.
This is a welcome measure by IRDA, paving way for new investment avenues for Category II Funds concentrated in priority sectors such as infrastructure and SMEs. This would allow further unlocking of funds from the insurance
Insurers allowed to invest in Category II AIFs
sector to move to priority sectors. The government should also look to permit pension funds to invest in infrastructure and SME funds, which will give the much needed push to such sectors by unlocking a large pool of money which is currently underutilized by pension funds.
In August 2013 the IMF and the World Bank jointly released the Financial Sector Assessment Program Update (Report) assessing the implementation of the CPSS-IOSCO Recommendations for Securities Settlement Systems and for Central Counterparties in India. The Report analyses the clearing and settlement systems for (a) government securities, money market instruments and forex instruments and (b) corporate securities and financial derivatives. Although the commodity derivatives market has not been assessed by the Report, it suggested that a detailed self-assessment should be conducted by the Forwards Market Commission (FMC).
The Report observes that, in general, the risk management framework for the securities and derivatives clearing and settlement systems in India is prudent, the operational reliability is high and the regulation and oversight functions are effective. The Report opines that SEBI seems to be on track in adopting global best practices for clearing and settlement systems in India. However, prudential norms governing the commodities derivatives market remain the urgent need of the hour and must be facilitated by the FMC at the earliest.
The Report recommends legal finality to the netting and settlement mechanism on the stock exchange, and SEBI has amended the Securities Contracts (Regulation) (Stock Exchanges and Clearing Corporations) Regulations, 2012 to include a specific provision which makes payment and settlement in respect of transactions effected under the bye-laws of a recognized stock exchange or recognized clearing corporation final, irrevocable and binding on such parties. This would ensure the sanctity and safety of the market place, which till now was protected not by law, but a ruling of the Supreme Court of India.
Recent Development in Clearing and Settlement Systems in India
Shifting of FMC to FinMin
The National Spot Exchange Limited (NSEL) is a nation-wide platform for electronic spot trading of commodities. NSEL was not under the direct supervision of any regulator and enjoyed conditional exemptions under the Forward Contract Regulation Act, 1952 (FCRA) by virtue of which all forward contracts of one day duration in commodities that were traded on it did not have to comply with the FCRA.
The Forward Markets Commission (FMC), the designated regulator for commodity markets under the FCRA, was mandated to supervise and regulate exchanges engaged in forward trading. NSEL, which engaged in spot trading, fell in a regulatory black hole since it was a commodity exchange for spot trading but the nature of the contracts being traded on its floor were forwards. Based on an exchange wide default by NSEL, the need for change of oversight of the regulator was felt.
From September 2013, FMC has been shifted from the purview of the Ministry of Consumer Affairs to the Ministry of Finance. It is a welcome move as the FMC, under the Ministry of Finance, would be better-positioned to deal with the complexities of commodities markets and will be guided by the Ministry of Finance, as it deals in financial regulation rather than commodities per se. Moreover, shifting the FMC to the Ministry of Finance is a logical move, aimed at enhancing cooperation among regulators in the financial sector (RBI, SEBI, IRDA and PFRDA are supervised by Ministry of Finance). This transfer, though necessary, may not be a sufficient response, since FMC currently regulates 22 exchanges with an 80-odd staff and would require dedicated and skilled officers to efficiently regulate and supervise commodity futures exchanges. The government may consider providing enhanced powers to FMC, making it an independent regulator like SEBI, instead of a department of the Ministry of Finance.
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