How effective is the option to exit for foreign investor?

Two important legal developments bear on the above question. Firstly, the long-standing debate regarding enforceability of “put” and “call” options in public companies has been put to rest with the enactment of the Companies Act, 2013 (2013 act) and a recent notification issued by the Securities and Exchange Board of India (SEBI) under the Securities Contracts (Regulation) Act, 1956 (SCRA). Secondly, the price at which options can be exercised has been codified by the Reserve Bank of India (RBI) in a circular dated 9 January 2014, which impacts the concept of assured returns that are often contractually guaranteed to foreign investors via put options.

Public companies

The Companies Act, 1956 (1956 act), provided for free transferability of shares of a public company and recognized the rights of private companies to restrict the transfer of their shares. The enforceability of put and call options in public companies however, became the subject of judicial analysis as such options were perceived to violate the provisions of the SCRA and notifications issued under it, as well as the right of free transferability of shares under the 1956 act.

The 2013 act has provided clarity in this regard by giving statutory recognition to the enforceability of any contract or arrangement between companies (including public companies) in relation to transfer of securities. Additionally, a SEBI notification dated 3 October 2013 has settled the decade-long legal debate on the enforceability of options in public companies, by permitting companies to prospectively enter into contracts in their articles of association or in shareholders agreements for purchase or sale of securities pursuant to exercise of put or call options, subject to certain conditions.

The notification also mandates that such contracts are to be in compliance with the provisions of the Foreign Exchange Management Act, 1999, and regulations under it.

Amit Kumar is a partner and Janani Sekhar is a senior associate at Amarchand & Mangaldas & Suresh A Shroff & Co. The views expressed in this article are those of the authors and do not reflect the position of the firm.