A well-structured alternative

The Securities and Exchange Board of India has taken positive steps to regulate the buy-back process, write Harvinder Singh and Sumedha Dutta at HSA Advocates

The Securities and Exchange Board of India (SEBI) recently amended the SEBI (Buy-back of Securities) Regulations, 1998, by introducing the SEBI (Buy-back of Securities) (Amendment) Regulations, 2013, to curtail malpractices connected with open market buy-backs.

Many promoters of listed companies had used the buy-back regulations not to reward shareholders, but to prop up sagging share prices. Several kept their buy-back offers open for one year but failed to conclude or complete the buy-back process. SEBI’s amendments were introduced to control the share buy-back process, making it more structured, transparent and effective, rather than a tool for share price manipulation.

Through its amendments, SEBI has:

• Increased the mandatory minimum quantity of shares that a company is required to buy back from its existing shareholders from 25% to 50% of the offer size.

• Mandated the creation of an escrow account as security for performance, where at least 25% of the targeted buy-back amount is to be retained through the process.

• Reduced the maximum buy-back period from 12 months to six months.

• Permitted companies to buy back 15% or more of capital (paid-up capital and free reserves) only by way of tender offers, similar to a book-building process.

The amended regulations also rationalize the norms requiring disclosure (on a daily basis) of the shares being bought back on a cumulative basis on the website of the company and the stock exchanges.

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Penal consequences

If a company fails to achieve the minimum buy-back target of 50% of the offer size, the amount in the escrow account would be forfeited subject to a maximum of 2.5% of the total amount earmarked.

SEBI stipulates that a company must not raise further capital for one year from the closure of the buy-back except when discharging its subsisting obligations. It also provides companies with a one-year cooling-off period from the date of closure of the preceding offer during which it must not make another buy-back announcement or offer.

Legal hurdles

A legal standoff between the Ministry of Corporate Affairs (MCA) and SEBI appears to be brewing with the MCA questioning SEBI’s authority to prescribe thresholds different from those specified in the Companies Act.

SEBI holds that under section 77A(2)(f) of the Companies Act, 1956, (and similar provisions stipulated under section 68 of the new Companies Act, 2013), no company is allowed to purchase its own shares or other specified securities unless the buy-back of such shares or other specified securities listed on any recognized stock exchange is in line with SEBI’s regulations. The securities regulator believes it has the authority to notify appropriate buy-back norms for listed companies under section 77A(2)(f) so long as the regulations are in sync with the provisions of the SEBI Act and and are not in derogation of any law.

The MCA believes that the provisions of section 77A(2)(f) of the Companies Act do not empower SEBI to amend any of the existing buy-back provisions (including any specific time limit) provided under section 77A through its regulations. The Law Ministry endorsed the MCA’s position in July 2013, saying that the provisions of the main act “may not be altered or modified”.

From our perspective, the SEBI Act and the Companies Act should be read and interpreted independently of one another. As long as SEBI’s regulations are aligned with the provisions of the SEBI Act and do not contravene the provisions of any other law, there should be no conflict.

SEBI’s amendments are not derogatory in nature when compared with the provisions already stipulated under the Companies Act in respect of the buy-back of securities.

From a technical standpoint, both sections 77A(2)(f) of the Companies Act, 1956, as well as 68(2)(f) of the Companies Act, 2013, specify that “no company shall purchase its own shares or other specified securities unless the buy-back of such shares or other specified securities listed on any recognized stock exchange is in accordance with the regulations made by the SEBI in this behalf”.

Thus, SEBI’s power to amend the buy-back regulations as provided for under section 32 of the SEBI Act should be recognized and accepted.

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Harvinder Singh is a partner and Sumedha Dutta is a senior associate at HSA Advocates’ New Delhi office. They can be reached at harvinder.singh@hsalegal.com and sumedha.dutta@hsalegal.com.