Pre-agreed buyback of shares through put/call option in not valid under SCRA

Securities and Exchange Board of India (SEBI) in its recent informal guidance to Vulcan Engineers Limited (VEL) (dated 23 May, 2011) has communicated to VEL that, the pre-agreed buyback of VEL shares from SIMEST through put/call option is not valid under SCRA.

Background

VEL had gone to SEBI to understand SEBI’s view about the relationship between one of its major shareholder, TERUZZI, an Italian company having a stake of 66.91% in VEL and SIMEST SpA, an Italian financial institution controlled by Italian government, which intend to acquire 14% share capital of VEL.  Under the proposed agreement (which was based on business model of investment by SIMEST), SIMEST can exercise its option to sell to TERRUZZI all VEL shares owned by SIMEST by a put/call option starting from 30 June, 2015 and TERRUZZI is obliged to purchase the shares offered by SIMEST after complying with all applicable laws in India.  There were a few more legal clauses determining the relationship between TERUZZI and SIMEST, however those are not important for our analysis here.  In short- the question raised by VEL to SEBI was that, whether TERRUZZI and SIMEST are ‘persons acting in concert’ (PAC) under the regulation 2(e) of the SEBI Takeover code, 1997.

SEBI’s view

SEBI, before even looking at the possible PAC relationship between SIMEST and TERRUZZI commented on the nature of proposed agreement between TERRUZZI and SIMEST.  I am not sure, whether SEBI should have commented on the ‘proposed agreement’ (put/call option) or not, as this was not asked in the queries submitted to SEBI, it should have in ordinary course, returned the application and let the court decide about the nature of put/call option.

SEBI, after the opinion in open offer by Vedanta to the shareholders of Cairn India Limited is asserting the view that all kinds of put/call options are in the nature of forward contract and are therefore not valid under the securities laws in India.

I quote from the SEBI informal guidance- “As this option would be exercised in a future date (June 30, 2015 onwards), the transaction under this arrangement would not qualify as spot delivery contract as defined under section 2(i) of SCRA.  Further, the aforesaid put/call option would not qualify as a legal and derivative contract in terms of section 18A of SCRA as it is exclusively entered between two parties and is not a contract traded on stock-exchange and settled on the clearing house of the recognized stock-exchange.  Therefore, it light of the aforesaid provisions of SCRA read with SEBI Notification No. S.O. 184(E) dated 1^st March 2000, the pre-agreed buyback of VEL shares from SIMEST through put/call option is not valid under SCRA…”

Takeaways from the SEBI Informal Guidance

• Legal practitioners in India are habitually and regularly inserting put/call option clauses in the SPA/SSA, they should relook at this practice, especially for the listed companies in India. 
• SEBI, while deciding the validity of put/call agreement should also ponder on the fact that such type of contracts are ‘contingent contract’, which depend upon happening on some event and this event can be- exercise of option by the option holder- so when the option holder exercises his option, then only, this contract needs to be performed as per the provisions of section 2(i) (spot-delivery contract) of the SCRA.