Corporate Law Developments in India - Q4 2023

Ankush GoyalPartner

Rohan KohliSenior Associate

Natansh JainAssociate

Key Developments

• SEBI releases a consultation paper reviewing corporate governance norms for High Value Debt Listed Entities

  On 31 October 2024, the Securities and Exchange Board of India (SEBI) released a consultation paper seeking to revise the corporate governance framework for High Value Debt Listed Entities (HVDLE) under the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (LODR Regulations). Currently, HVDLEs are listed entities with an outstanding value of non-convertible debt securities of INR 500 crore or more. The key proposals of the consultation paper are discussed below.

  • Separate chapter for HVDLEs: A dedicated chapter for establishing specific corporate governance norms for HVDLEs has been proposed. This would differentiate the regulatory framework for debt-only listed entities from that applicable to equity-listed companies, ensuring clarity and tailored compliance requirements for each category.
  • Revised thresholds for identification of HVDLEs: SEBI has proposed to raise the threshold for identifying HVDLEs to INR 1,000 crore of outstanding non-convertible debt securities. This increase from the current threshold of INR 500 crore aligns with the recent increase in the threshold for classifying 'Large Corporates'. This revision aims to reduce the number of entities subject to the enhanced corporate governance framework.
  • Introduction of sunset clause for applicability: Currently, HDVLEs continue to be subject to enhanced corporate governance norms even if their outstanding debt falls below the specified threshold. SEBI has proposed introducing a 'sunset clause' to address this. Under this clause, HDVLEs would be subject to enhanced corporate governance for three consecutive years after their outstanding debt falls below the specified threshold.
  • Flexibility for ‘non-Company’ HVDLEs: HVDLEs that are not companies, such as body corporates or entities regulated under other statutes, will be required to comply with the corporate governance provisions outlined in Regulations 17 to 27 of the LODR Regulations only to the extent that such compliance does not conflict with the provisions of their respective special statutes. This primarily applies to provisions related to the board of directors, board committees, and related party transactions.

  The proposed reforms for HVDLEs seek to balance the interests of both investors and HVDLEs and reduce regulatory arbitrage by streamlining the relaxations given to debt-listed entities.

• Issuance of framework for reclassification of foreign portfolio investment to foreign direct investment

  The NDI Rules mandate that the investment made by foreign portfolio investors (FPI) (along with their investor groups) in an Indian listed company cannot exceed 10% of the total paid-up equity capital on a fully diluted basis. FPIs in breach have the option to divest their holding or to reclassify them to foreign direct investment (FDI) within five trading days of the breach. In consultation with the Government of India and SEBI, the Reserve Bank of India (RBI) issued the operational framework for such reclassification of foreign portfolio investment to FDI in a circular dated 11 November 2024.

  The key requirements of the operational framework to reclassify investments are as follows:

  • FPIs must obtain necessary approvals from the government and consent of the concerned Indian investee company.
  • FPIs must ensure that the reclassification adheres to entry routes, sectoral caps, investment limits, pricing guidelines and other conditions for FDI under the NDI Rules. Reclassification will not be permitted in sectors prohibited for FDI.
  • FPIs must show their intent to reclassify and provide a copy of all necessary approvals to its custodian. Subsequently, the custodian will freeze purchase transactions by such FPIs in equity instruments of the investee company until reclassification.
  • The entire investment held by the FPI will be reported in a manner prescribed by the circular.
  • Post reclassification of FPI to FDI, the FPI’s entire investment in the Indian company will be deemed as FDI, even if the holding subsequently falls below 10%.
  • If the necessary approvals are not obtained by the investor, any investment exceeding the prescribed threshold must be compulsorily divested within five trading days from the date of settlement of the trades that caused the breach.

  Earlier, FPIs in breach of the 10% threshold had to mandatorily divest their holdings, which often resulted in a loss. This regulatory framework enables FPIs exceeding the prescribed ownership thresholds to reclassify their holdings in accordance with a streamlined framework, reducing inefficiencies. This aligns with India’s broader initiative to streamline regulatory compliance and foster sustained foreign capital inflows.

• Norms governing issuance of Offshore Derivative Instruments tightened

  SEBI issued a circular on 17 December 2024 tightening the rules on issuance of offshore derivative instruments (ODI) by FPIs.

  FPIs are now permitted to issue ODIs only through a distinct and dedicated FPI registration that excludes proprietary investments. A dedicated registration is not required for ODIs referencing government securities. Further, ODIs cannot use derivatives as underlying and must be fully hedged with the same securities on a one-to-one basis throughout their tenure.

  For smooth operationalisation, the following ‘transitory measures’ have been outlined by SEBI:

  • Existing ODIs with derivatives as underlying can be redeemed within one year but not renewed.
  • Existing ODIs hedged with derivatives can be redeemed or hedged with the same securities as underlying within one year.
  • Existing ODIs issuing FPIs have one year to obtain separate dedicated registration, if required.

  Another key change is the introduction of mandatory disclosure requirements for ODI subscribers. Earlier, SEBI had mandated certain foreign portfolio investors (having equity investments meeting an objective threshold) to make additional disclosure requirements (to read our detailed update on that circular, click here). A similar framework has now been implemented for ODI subscribers meeting the following criteria:

  • ODI subscriber having more than 50% of its equity ODI positions through the ODI issuing FPI in ODIs referenced to securities of a single Indian corporate group; and
  • ODI subscriber having equity positions worth more than INR 25,000 crore in the Indian markets.

  Certain entities have been exempted from these requirements, e.g., subscribers who are government/government-related investors, public retail funds, university funds, etc. Compliance with the mandatory disclosure requirements must be ensured within five months from the date of the circular.

  The intent behind the circular is to introduce stricter reporting requirements to improve transparency in the capital markets. By collecting detailed ownership information, SEBI aims to prevent the misuse of ODIs for indirect control of Indian companies or to bypass regulations. This measure will also help identify potential risks and ensure compliance with investment rules, promoting a more secure investment environment.

• Updated framework for treatment of wilful defaulters

  The RBI issued the Master Directions on Treatment of Wilful Defaulters and Large Defaulters (Master Directions) that came into effect on 28 October 2024. These Master Directions apply to banks, Non-Banking Financial Companies (middle layer and above), and All India Financial Institutions. Reporting requirements extend to Asset Reconstruction Companies and Credit Information Companies, while provisions on large defaulters and financial accommodation for wilful defaulters cover all RBI-regulated entities. The key aspects of the Master Directions are:

  • Timeline for classification: Borrowers identified as potential wilful defaulters during lenders' preliminary screening must be classified as such within six months of being designated as Non Performing Accounts.
  • Failure to infuse equity: A borrower, or its promoters, failing to fulfill equity infusion commitments despite the ability to do so constitutes wilful default. Lenders must classify such borrowers accordingly.
  • Loan covenants: Loan agreements must include provisions prohibiting borrowers from appointing individuals listed as wilful defaulters to managerial roles and barring lenders from renewing, enhancing, restructuring, or providing fresh facilities while such individuals are associated with the borrower.
  • Penal measures for associated entities: Associated entities of wilful defaulters will face restrictions on availing additional facilities, floating new ventures, or restructuring loans for specified periods after removal from the wilful defaulters list.
  • Policy and governance: Lenders must adopt board-approved policies covering committee structures for identifying and reviewing wilful defaulters, compromise settlements, forensic audit thresholds, and procedures for issuing show cause notices and orders.

  The revisions were introduced in response to growing concerns about wilful defaults, as underscored by the Central Vigilance Commission and various parliamentary committees. The framework reflects the outcomes of extensive consultations and recommendations, underscoring its commitment to addressing these issues effectively while fostering accountability and trust within the financial ecosystem.

• Amendments to the Securities Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015

  SEBI has amended the LODR Regulations enforcing stricter compliance measures and tougher disclosure norms, effective from 31 December 2024. The key amendments are:

  • Enhanced compliance officer responsibilities: Compliance officers must now ensure stricter adherence to SEBI regulations, stock exchange rules, and other laws. Enhanced internal monitoring is critical, with deviations requiring immediate reporting.
  • Refined reporting standards: Listed entities must provide exhaustive and timely disclosures, including material events, financial statements, and other investor-relevant information. These updates aim to equip investors with accurate data for informed decision-making.
  • Strengthened investor grievance mechanisms: Businesses are mandated to establish efficient systems for processing investor complaints, fostering greater confidence in the market.
  • Streamlined filing procedures: Integrated filing processes have been introduced to reduce duplication and compliance costs while maintaining disclosure quality, simplifying compliance for companies.
  • Stricter timelines post insolvency: Companies emerging from insolvency must now meet governance standards within shorter timeframes, ensuring smoother transitions and market stability.

• Framework for monitoring shareholding of Market Infrastructure Institutions

  SEBI issued a circular on 14 October 2024 establishing a framework for monitoring the shareholding of Market Infrastructure Institutions (MII), applicable to both listed and unlisted entities. MIIs are the fundamental systems that enable the buying and selling of securities. These include stock exchanges, depositories, and clearing corporations. MIIs are now required to disclose their shareholding pattern on a quarterly basis in the format specified under the LODR Regulations and display it prominently on their websites.

  • Designated Depository mechanism

    • MIIs must appoint a Designated Depository (DD) to monitor compliance with shareholding norms under the SEBI (Stock Exchanges and Clearing Corporations) Regulations, 2018 and SEBI (Depositories and Participants) Regulations, 2018.
    • The DD must ensure adherence to shareholding thresholds, such as 5%, 15%, and 49% for non-residents, and 49% for trading members and their associates.
    • For Clearing Corporations, the DD must ensure that recognised stock exchanges hold at least 51% of paid-up equity.
    • In case of threshold breaches, the DD must inform the MII, stock exchange, and Registrar and Transfer Agent and initiate corrective actions.

  • Fit and proper criteria

    • Shareholders holding 2% or more equity shares or voting rights must always meet the fit and proper criteria.
    • MIIs must notify shareholders of these requirements and report quarterly to SEBI of any non-compliances.

  • Enforcement measures

    • Breaches of shareholding norms or the fit and proper criteria will result in the freezing of voting rights and corporate benefits for excess shares.
    • An ISIN-level freeze will be applied to the demat account of the non-compliant shareholder, disabling e-voting for excess shares.
    • Dividends from excess shares will be transferred to the Investor Protection Fund or Settlement Guarantee Fund, depending on the type of MII.

  SEBI’s framework enhances transparency and regulatory oversight over MIIs, ensuring compliance with shareholding norms and fit and proper criteria. The quarterly disclosure requirements and DD mechanism will strengthen governance by preventing concentration of ownership beyond prescribed limits. Enforcement measures, such as freezing voting rights and redirecting dividends from non-compliant holdings, create strong deterrents against breaches. Overall, the framework fosters investor confidence, mitigates systemic risks, and reinforces the stability of India’s capital markets.

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