The Hindu Business Line : Minority shareholder ‘warrants’ protection

There are a couple of serious issues of minority shareholder rights which have not caught the attention of either the regulators or the independent directors of listed companies.

Anil Singhvi

Since the reform process began in 1991, India Inc. has come a long way in terms of growth, cost reduction and productivity, resulting in healthy balance-sheets and good returns on capital employed. The learning curve for the corporate sector has been rather steep. Despite the pains, it has attained a greater level of maturity. And now, the next phase has started with Indian companies looking at growth opportunities overseas. This was unthinkable a couple of years bac k. It is just a reversal of thought process of 1990s, of not allowing foreign companies to invade Indian markets by formation of the “Bombay Club”.

We definitely have come a long way. Thestock market is now helping fuel the growth of Indian corporates. This is amply reflected in the market capitalisation of about $1 trillion, which is around the country’s GDP figure. But the challenge, today is to be better than the rest of the world.

Listed companies need to appreciate the fact that they are not only accountable to minority shareholders but must also respect them as providers of risk capital. At present, the concerns of minority shareholders are hardly respected. There are a couple of serious issues of minority shareholder rights which have not caught the attention of either the regulators or the independent directors of listed companies. Most companies pay little thought to shareholder equality.

Equity warrants

The first and foremost is preferential issuance of equity warrants to the promoters. Equity warrant is an instrument allowing the subscriber the option to buy shares in a company at a pre-specified price at or before some future date. Thus, a warrant gives a right to the subscriber to buy a share but no obligation, hence it is different from partly paid-up shares.

In the last five years, a number of listed companies have issued equity warrants to promoters. These are basically done to shore up the promoters’ holding. It is a double whammy for minority shareholders: (a) they are denied participation at the same level as the promoter shareholders; and (b) the promoters, while subscribing to the warrants, essentially get an option from the company to pay only 10 per cent of the equity warrant’s value and an additional 18 months to pay up the balance. It is a major breach of trust and faith on minority shareholders.

Moreover, the Companies Act has no definition of warrant. In fact, the Act does not envisage issue of shares without an increase in the share capital, but the practice followed in the case of equity warrants is to credit this amount to the share application account.

Leaving aside the accounting treatment, it is disturbing that companies are issuing equity warrants without having any legal backing of either the Companies Act or the Securities Contracts (Regulation) Act.

In most cases, equity warrants were fully paid only if the market price of a particular company’s share werehigher than the equity warrant’s price. Since the period available to subscribe is fairly long ( 18 months), it gives promoters a huge opportunity to ride the stock market. Thus, there is a clear evidence of promoters profiteering by issuance of such equity warrants.

Takeover regulation

There is also another issue of conflict. As per the Takeover Regulation, promoters can increase their shareholding by buying the company’s shares to the extent of only up to 5 per cent of the equity capital during one financial year. And, now, with promoters being issued equity warrants (in most cases more than 5 per cent), they corner more shares by bypassing the Takeover Regulation and that too by paying just 10 per cent upfront. A rights issue of shares, allowing all shareholders to participate, would not have allowed them to disproportionately increase their holding in the company.

Equity warrants do not bode well for the development of good corporate governance practices and growth of the capital markets. It is hoped that the Securities and Exchange Board of India (SEBI) will stop the practice of issuance of equity warrants to promoters. There are enough ways and means to raise the equity capital required by a company and all shareholders should be allowed to participate equally. And if the capital required is large, then outside investors can participate through various other options.

Another area of concern is restructuring of listed companies. This requires immediate attention, more importantly for protection of the interests of minority shareholders. Barring some, most corporate restructuring, especially de-mergers, have been at the cost of the minority shareholders. Though, most of the restructuring schemes are legally compliant, they hardly protect the interests of minority shareholders and, to a large extent, corporate governance is disregarded.

It is ironical that while acquisitions are under the purview of SEBI, mergers and de-mergers continue to be a domain of the courts. Considering that courts are already overburdened, it is virtually impossible for them to pay full attention and appreciate the interests of minority shareholders; in practically all such cases the minority shareholders are not even represented.

Courts merely rely on the framework of the Companies Act and the compliance of listing agreement approved by stock exchanges. Seldom is any scheme amended to protect the interests of minority shareholders. With domestic companies aspiring to become global players and with heightened activity in the mergers and acquisitions space, it is time mergers and de-mergers schemes were made not only legally compliant but also protective of minority shareholders. All such schemes should be approved by the shareholders (by postal ballot) and SEBI rather than the courts. There are numerous cases where de-mergers have been done solely for the benefit of certain class of shareholders. Many-a-times de-mergers are done just to assuage family scuffles. The listed company is split into smaller entities and given to each of the sparring family members with disregard to corporate governance and minority shareholders.

Independent directors

It is time the promoters of listed companies stopped considering companies as their fiefdoms. Corporate restructuring should not merely be legally compliant but, more importantly, it should protect the interests of all the stakeholders. In this context, the role of the independent director on the board would be of paramount importance and they should be held responsible and accountable to the minority shareholders.

For our capital markets to be a global investment destination and before provident fund and pension fund monies are deployed into equity markets, it is important that the interests of minority shareholders are protected.

(The author is Managing Director of Ican Investments Advisors Ltd, Mumbai.)

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