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A Guide to Disclosure on COVID-19 related impacts

| SEBI seeks transparency from listed entities in times of COVID crises

Shaifali Sharma | Vinod Kothari and Company

corplaw@vinodkothari.com

Introduction

The impact of COVID-19 on companies is evolving rapidly not only in India but all over the world. In times of increased volatility and uncertainty in the capital market, detailed information regarding any material impact on the company’s business will not only assist the investors in making informed investment decisions but will also be fundamental formarket integrity and functioning.

Pursuant to the requirements of Listing Regulations, many listed entities have made disclosures, primarily intimating shutdown of operations owing to the pandemic and the resultant lockdowns. However, such probable information may be relatively less relevant and investors are more interested to know where these companies stand today, what are their estimated future impacts, strategiesadopted by these companies for addressing the effects of COVID-19, etc.

Given the information gaps in the market, SEBI, highlighting the importance of timely and adequate disclosures to investors and other stakeholders, issued an advisory[1]on May 20, 2020 (‘Advisory’), asking all the listed entities to evaluate the impact of COVID-19 on their business, performance and financials, both qualitatively and quantitatively, and disseminated the same to the stock exchange.

This article discuss in detail the disclosure requirements under Listing Regulations and provides a quick guide for the listed entities in evaluating and disclosing impact of pandemic on their business.

Existing disclosure norms under Listing Regulations on impact of COVID-19

The existing requirements prescribed under Listing Regulations in relation to the disclosure of impact of COVID-19 on listed entities are summarized below.The same is applicable to the following entities:

  • companies listed with specified securities i.e. equity shares and convertible securities
  • companies listed with Non-convertible Debt Securities (NCDs) and/or Non-Convertible Redeemable Preference Shares (NCRPSs)
Entities having specified securities listed Entities having NCDs/NCRPS listed
What is the disclosure requirements prescribed under Listing Regulations?
The events can be divided into two broad categories a. Deemed Material Events and b. Material Events based on application of materiality criteria as provided in Regulation 30(4).

In the first category, the events specified in Para A of Part A of Schedule III get covered and requires mandatorily disclosure on the occurrence and in the second category, events under Para B are disclosed based on the application of the guidelines for materiality prescribed under sub-regulation (4) of Regulation 30.

Unlike Regulation 30, Regulation 51 does not provide for any test of materiality.

Part B of Schedule III requires disclosure of all information either,

  • having bearing on the performance/ operation of the listed entity; or
  • is price sensitive; or
  • shall affect the payment of  interest/ dividend on NCDs/ NCRPSs; or
  • shall affect the  redemption of NCDs/ NCRPSs.
Whether disclosure on COVID impact required by Listing Regulations?
Yes.

Disclosure w.r.t. disruption of operations of any one or more units or division of a listed entity due to natural calamity (earthquake, flood, fire etc.), force majeure or events such as strikes, lockouts etc. falls under second category.

Therefore, disruption of operations due to COVID-19 is required only if the same is considered material after applying the materiality guidelines.

Yes.

Since disruption caused by COVID may be said to have the aforesaid effects.

What are the actionables as per Listing Regulations?
In terms of sub- regulation (5) of Regulation 30, the Board of Directors (BoD) is required to authorize one or more KMPs for the purpose of determining materiality. Therefore, such authorized KMP(s) shall determine if the impact of COVID on company’s operations is material based on the criteria prescribed under sub-regulation (4) and the policy framed by company for said purpose.

On determination of the materiality, the same shall be disclosed to stock exchange and also host the disclosure on company’s website.

For this category of companies, the law does not provide for the similar requirements as provided for companieshaving specified securities listed eg. framing of policy, determination of materiality by Board authorized person etc. Therefore, the disruption caused by COVID-19 shall be intimated to the stock exchanges(s) as per Regulation 51 of the Listing Regulations.

In this case, disclosure on website is not mandatory; however, company may do so for better reach of information to investors and stakeholders.

When is the disclosure required?
Regulation 30 provides for disclosure as soon as reasonably possible, but not later than 24 hours from the occurrence of the event. The guidance on when an event is said to have occurred has been provided in SEBI Circular[2] dated September 09, 2015. In terms of the said Circular, the same would depend upon the timing when the listed entity became aware of the event/information or as soon as, an officer of the entity has, or ought to have reasonably come into possession of the information in the course of the performance of his duties. Regulation 51 provides for prompt dissemination i.e. as soon as practically possible and without any delay and that the information shall be given first to the stock exchange(s) before providing the same to any third party.
What all disclosures have been suggested by SEBI vide its Circular dated September 09, 2015?
As per SEBI circular dated September 09, 2015, companies shall disclose:

At the time of occurrence of disruption:

  • expected quantum of loss/ damage caused at the time of occurrence of the event;
  • whether loss/damage covered by insurance or not including amount
  • estimated impact on the production/operations
  • factory/unit where  the  lock  out  takes  place  with reasons

Regularly, till complete normalcy is restored

  • Insurance   amount   claimed   and   realized   by   the   listed   entity   for   the loss/damage;
  • actual amount of damage caused
  • details of steps taken to restore normalcy and impact on production/operations, financials of the entity
Though the said Circular refers to only Regulation 30, however, the same requirements should apply to this category of companies also which should additionally disclose the impact on servicing of interest/ dividend/ redemption etc.

Similar disclosure requirement are prescribed for entities which has listed its Indian Depository Receipts, Securitized Debt Instruments and Security Receipts where all information which is price sensitive or having bearing on the performance/ operation of the listed entity and other material event as prescribed under Chapter VII, VIII, VIIIA read with Schedule III of the Listing Regulations shall be disclosed

Disclosure requirements as per SEBI Advisory

As mentioned earlier, SEBI Advisory is an addition to the above requirements of Listing Regulations. Though, one may argue that the Advisory is recommendatory in nature and it does not mandate the companies to make the disclosure, however, in our view, the same is not a mere recommendation. Keeping this in mind, the probable questions that one can have with respect to SEBI Advisory have been captured below:

What is the intention of the SEBI behind issuing such Advisory?

As mentioned in the SEBI Advisory, the outbreak of COVID-19 pandemic and the consequent nationwide lockdown has lead to distortions in the market due to the gaps in information available about the operations of a listed entity and therefore, it is important for a listed entity to ensure that all available information about the impact of pandemic on the company and its operations is communicated in a timely and cogent manner to its investors and stakeholders.

These disclosures ensure transparency and will provide investors an opportunity to make an accurate assessment of the company. So, the idea behind the disclosures is to give an equal access to the information to all the stakeholders at large.

Which all entities are covered by SEBI Advisory?

Due to the COVID-19, a global pandemic, all kinds of businesses are impacted in one way or another. Unlike the Listing Regulations, SEBI Advisory does not differentiate the disclosure requirements for the companies listed with specified securities and companies listed with NCDs/NCRPS, and the Advisory is applicable to all the listed entities.

Whether the requirements of Advisory are mandatory for listed entities?

Considering the purpose of making fair and timely disclosure of any material impact on the companies, the disclosures as mentioned in the Advisory shall be treated as mandatory in nature.

Whether disclosure required if the thresholds as set out in company’s materiality policy are not met?

The materiality of an event is generally measured in terms of thresholds laid down by the companies in their ‘policy for determination of materiality’ however, such criteria should not be considered as an absolute test to determine the materiality of an event like COVID pandemic

In times of the ongoing crises, investors would be interested to know all the inside information about the impact of pandemic on the company’s business operations, financial results, future strategies, etc. i.e. every qualitative or quantitative factors.

Since every person is doing an assessment of the impact of the crisis, it is intuitive to say that the management of the companies must also have done some assessment. Considering that the idea is to provide general and equal access to the information to all the stakeholders at large, the management must disclose every positive/negative/neutral impact of the crises on the company, irrespective of the fact that it qualifies the prescribed materiality threshold or not.

What if there no impact on the business caused by the pandemic? Whether the same is also required to be disclosed?

In our view, not getting affected by the pandemic at the time when the entire world is otherwise getting affected is also material. Therefore, the disclosure shall have to be made.

Further, it is not always necessary that the pandemic will have to have a negative impact e.g. decrease in sales volume. For example, companies in pharmaceutical sector or in the sector of manufacturing of essential items such as, mask, sanitizer etc. will have a boost in sales, thereby carrying a positive impact on them.

Whether Board meeting is required to be conducted in this regard? Or will the company be required to wait till the Board decision to make the disclosure?

While an internal assessment is required at the management level, however, a Board meeting is not mandatory to be conducted. Yes, the estimates already made may be changed at a later stage which may be disclosed at that stage again.

Is it ok to say for the management to take a position that they have not analyzed the impact of the crisis?

Considering the current risk and challenges as a result of COVID-19, it is very unlikely to say that companies have not done any internal assessment to determine the current and potential impact on the company’s financial and business operations.

What are the steps involved in making the disclosure?

Step 1: Evaluate the impact of the pandemic on the business, performance and financial

Before making any disclosure to the stock exchange(s), the management of the company must properly assess the impact of COVID-19 on its business, performance and financials, both qualitative and quantitative impact.

Step 2: Dissemination of impact of pandemic to stock exchange

The following information shall be disseminated to the stock exchange:

  1. Impact of the pandemic on the business;
  2. Ability to maintain operations including factories/ units/ office spaces functioning and closed down;
  3. Schedule, if any for restarting the operations;
  4. Steps taken to ensure smooth functioning of the operations;
  5. Estimation of future impact on the operations;
  6. Details of impact on the listed entity’s
    • capital and financial resources;
    • profitability;
    • liquidity position;
    • ability to service debt and other financing arrangements;
    • assets;
    • internal financial reporting and control;
    • supply chain
    • demand for its products/services;
  7. Existing contracts/agreements where non-fulfilment of the obligations byany party will have significant impact on the listed entity’s business;
  8. Any other information as the entity may determine to be relevant and material;

While making the above disclosure to stock exchanges, entities shall also adopt the principle of disclosure and transparency prescribed under Regulation 4(2)(e) of the Listing Regulations.

Who is responsible to evaluate and make disclosures to the stock exchange(s)? What is the role of the Board in the process of assessment and/or disclosure?

  1. Responsibility of KMP(s) as per Listing Regulations

Pursuant to Regulation 30 of the Listing Regulations, the KMP(s), as may be authorized by the Board, is responsible to determine the materiality of the impact of pandemic on the company based on the on the guidelines for materiality and the materiality policy of the company and disclose the same to the stock exchange

  1. Role of Board in the assessment of other material qualitative and quantitative impacts

Considering the language of the Advisory issued by SEBI, in addition to the KMPs authorized to test the materiality, the Board will also have a role in determining the COVID impact as the same requires disclosure in which management intervention may be necessary, e.g. future plans for business continuity, capability of running the business smoothly, material changes expected during the year, impact of the financial position etc.

However, as discussed above, a Board level discussion is not a prerequisite of making the disclosure.

Is there any timeline prescribed for making disclosers to the stock exchange(s)?

There is no specific timeline provided in the Advisory for making disclosures, however, in the present situation, the disclosure is required to be made as soon as an assessment is done on the probable impact by the management.

Whether the disclosures a one-time requirement for the listed entities?

Since the operations of the company will recommence soon, question arises if the companies should continue with its assessment and disclosure process. As stated in Advisory, to have continuous information about the impact of COVID-19, listed entities may provide regularupdates, as and when there are material developments. Further, since the disclosures will be made based on estimates, any changein those estimates or the actual position shall also be disclosed in regular intervals.

Therefore, disclosure is required not only at the time of occurrence but also on a continuous basis till the normalcy of the situation.

Whether impact on an unlisted subsidiary company shall also be disclosed? 

To get an overall view of company’s performance, we always evaluate consolidated figures. Sometimes, company’s standalone performance is strong as compared to its performance at consolidated level. Accordingly, if the pandemic’s impact on unlisted subsidiary is such that it is having a material impact at the group level, the same shall be disclosed to the stock exchange.

Whether effects of COVID-19 be also reported in Financial Results?

In the coming days, companies will be disclosing their quarterly and yearly financial results. This time, however, investors will be interested inknowing the impact of COVID-19 on the company’s financial positions. Therefore, while submitting financial statements under Regulation 33 of the Listing Regulations, companies should mention about the impact of the CoVID-19 pandemic on their financial statements.

What will be the consequences for not complying with the SEBI Advisory?

Since no separate penal provisions are prescribed under the Advisory, non- compliance of the same may not lead to any penal consequences.

What is the global position as regards disclosure of COVID impact?

Market regulators worldwide have taken various steps to ensure transparency related to the impacts of the pandemic on the listed companies. In United States, the Securities Exchange Commission has issued guidance[3] regarding disclosure and other securities law obligations that companies should consider w.r.t the COVID-19 and related business and market disruptions. Similarly, for listed companies and auditors in Hong Kong, the Securities and Futures Commission and the Stock Exchange of Hong Kong Limited issued a joint press release[4] in relation to the disclosure requirements in response to the COVID-19 outbreak

Our write-up giving an insightful analysis on the said SEBI advisory drawing an inference from the global perspective can be viewed here

What kind of information be disclosed to the stock exchange?

The table below is a quick guide for the listed entities in determining and disclosing the impact of COVID-19 on their businesses:

 

Sr. No. Subject of Assessment and Disclosure Broad Contents (Illustrative list)

 

I.                     Current status (both financial and operating status)

 

  • Status of closure and reopening of branches/units/ stores in different parts
  • Areas in which the company is operating
  • Current liquidity position
  • Impact on productions, sales, profits, stock prices, credit rating, assets, etc.
  • Internal financial reporting and control
  • Impact in capital and financial resources
  • Current trading and outlook
  • Impact on working staff
  • Layoffs during the period
  • Areas of business most impacted
  • Status of business in other countries (say China)
  • Delay of important projects
  • Suspension of dividends
  • Impact of Government imposed measure/restrictions (e.g. for logistic companies, border closures may impact ability to operate)

 

II.                  Steps taken to address effects of COVID Steps taken to:

  • reduce business/operating cost or cost cutting measures adopted
  • conserve cash and ensure liquidity
  • secure safety of employeesensure business continuity
  • address the immediate impact and ensure future positioning
III.               Future operational and financial status (estimates)
  • Estimation of future impact on the operations
  • Estimated trends in demand for its products/services
  • Expected financial resource needsFuture expectations of financial and operating conditions
  • Any material impairment (e.g. impairment of goodwill)
  • Forecasts for the year
  • Material changes expected during the year
  • Business continuity plans
  • Future operating/ financial long-terms or short-term  strategies to address future risk/challenges
  • Other forward-looking disclosures
IV.               Company Specific Focusing on the sectors in which the company deals in, the impact of crises varies from company to company and shall be assessed accordingly. For example:

  • Closure of unit/factory/company
  • Breach of contract significantly impacting the company’s business

 

The above list is illustrative but not exhaustive and each company will need to carefully assess COVID-19’s impact and related material disclosure obligations.  

Concluding Remarks

In light of the effects and uncertainties created by COVID-19, disclosure about shutdowns and safety measures against COVID will not help the investors in making an informed assessment about the company’s financial position. Timely and adequate information about company’s current operational and financial status with future plans to address the effects of COVID-19 will better equip the investors to make an investment decision. Therefore, the Advisory should not be considered as a mere recommendation of SEBI as a transparent communication by the companies will allow the investors and other stakeholders to evaluate current and expected impact of COVID-19 on company’s businesses, financial and operating conditions and future estimated performance.

[1]https://www.sebi.gov.in/legal/circulars/may-2020/advisory-on-disclosure-of-material-impact-of-covid-19-pandemic-on-listed-entities-under-sebi-listing-obligations-and-disclosure-requirements-regulations-2015_46688.html

[2]https://www.sebi.gov.in/legal/circulars/sep-2015/continuous-disclosure-requirements-for-listed-entities-regulation-30-of-securities-and-exchange-board-of-india-listing-obligations-and-disclosure-requirements-regulations-2015_30634.html

[3] https://www.sec.gov/corpfin/coronavirus-covid-19

[4] https://www.hkex.com.hk/-/media/HKEX-Market/Listing/Rules-and-Guidance/Other-Resources/Listed-Issuers/Joint-Statement-with-SFC/20200204news.pdf

Other reading materials on the similar topic:

  1. ‘Listed company disclosures of impact of the Covid Crisis: Learning from global experience’ can be viewed here
  2. ‘Resources on virtual AGMs’ can be viewed here
  3. ‘COVID-19 – Incorporated Responses | Regulatory measures in view of COVID-19’ can be viewed here
  4. Our other articles on various topics can be read at: http://vinodkothari.com/

Email id for further queries: corplaw@vinodkothari.com

Our website: www.vinodkothari.com

Our Youtube Channel: https://www.youtube.com/channel/UCgzB-ZviIMcuA_1uv6jATbg

COVID- 19 AND DEBENTURE RESTRUCTURING

-Munmi Phukon, Pammy Jaiswal and Richa Saraf (corplaw@vinodkothari.com)

ICRA has published a report on 23.04.2020[1], listing out some 328 entities[2] who have availed or sought a payment relief from the lending institutions or investors. The list also includes names of such entities that have received an in-principle approval from investors in their market instruments (like non-convertible debentures)- prior to the original due date- for shifting the original due date ahead, but where a formal approval from the investors was received either after the original due date or is still pending to be received.

Earlier, Securities and Exchange Board of India (SEBI) had, vide circular no. SEBI/ HO/ MIRSD/ CRADT/ CIR/ P/ 2020/53 dated 30.03.2020[3], addressed to the credit rating agencies (CRAs), granted certain relaxation from compliance with certain provisions of the circulars issued under SEBI (Credit Rating Agencies) Regulations, 1999 due to the COVID-19 pandemic. The circular stipulated that appropriate disclosures in this regard shall be made in the press release, seemingly, the report published by ICRA is a part of the disclosure requirement specified by SEBI.

In view of the COVID crisis, companies in large numbers are approaching investors or will be approaching investors for restructuring of the debentures, therefore, it becomes pertinent to discuss- how the restructuring is carried on? whether a meeting of debenture holders will be required to be convened? what will be the consequences if the restructuring is not done? and other related questions. Below we discuss the same.

Force Majeure– An Excuse to Default?

In financial terms, “default” means failure to pay debts, whether principal or interest. Under ISDA Master Agreement[4], failure by the party to make, when due, any payment is listed as an event of default and one of the termination events. However, the ISDA Master Agreement provides that in case of a force majeure event, payments can be deferred. Most of the standard agreements, contain specific clauses pertaining to force majeure, where the party required to perform any contractual obligation is required to intimate the other party as soon as it becomes aware of happening of any force majeure event. While in some cases, due to impossibility of performance, the agreement itself is frustrated; in some other cases, the obligations are merely deferred till the event persists.

Our article “COVID- 19 and The Shut Down: The Impact of Force Majeure” can be accessed from the link: http://vinodkothari.com/2020/03/covid-19-and-the-shut-down-the-impact-of-force-majeure/

Consequences of default- Rights available to debenture holders:

A debenture holder has several options available in case of default: (a) insolvency proceedings; (b) enforcement of security interest; (c) proceedings for recovery of debt due. Below we discuss the same:

– Right to call for meeting of debenture holders: Rule 18 (4) of the Companies (Share Capital and Debentures) Rules, 2014 stipulates that the meeting of all the debenture holders shall be convened by the debenture trustee on:

  • requisition in writing signed by debenture holders holding at least 1/10th in value of the debentures for the time being outstanding; or
  • the happening of any event, which constitutes a breach, default or which in the opinion of the debenture trustees affects the interest of the debenture holders.

– Right to make an application before NCLT: Section 71(10) of the Companies Act, 2013 provides that on failure of the company to redeem the debentures on the date of their maturity or failure to pay interest on the debentures when it is due, an application may be filed by any or all of the debenture holders or debenture trustee, seeking redemption of the debentures forthwith on payment of principal and interest due thereon.

Application under IBC: Section 5(7) of IBC defines a “financial creditor” to mean any person to whom a financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to, and Section 5(8) of IBC defines “financial debt” as a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes any amount raised pursuant to any note purchase facility or the issue of bonds, notes, debentures, loan stock or any similar instrument. Thus, debenture holders are treated as financial creditors for the purpose of IBC and may exercise all the rights as available to a financial creditor.

As per Section 6 of IBC-“Where any corporate debtor commits a default, a financial creditor, an operational creditor or the corporate debtor itself may initiate corporate insolvency resolution process in respect of such corporate debtor in the manner as provided under this Chapter”.  Accordingly, the debenture holders (whether secured or not) may apply for initiation of corporate insolvency resolution process against the company under Section 7 of IBC. In fact the Central Government has, vide notification no. S.O. 1091(E) dated 27th February, 2019, notified that such right may also be exercised by the debenture holder, through a debenture trustee.

Right to enforce security interest: The right of foreclosure is a counter-part of right of redemption. Just like a company has a right of redeeming the security after payment of debt amount, a secured debenture holder has a right of foreclosure or sale in case of default in redemption. In the case of Baroda Rayon Corporation Limited vs. ICICI Limited[5] and in Canara Bank vs. Apple Finance Limited[6], Bombay High Court upheld the right of the debenture trustee to sell off the properties of the company for the benefit of the debenture holders.

Here, it is pertinent to understand how the debenture holders shall exercise the right of foreclosure. The law distinguishes between security interests based on the nature of the collateral. For instance, in case of security interests on immovable properties, Chapter IV of Transfer of Property Act, 1882 applies.  Further, the security interest, in case of secured debentures, can be enforced in the following manner: (a) In case the debenture holder is a bank/ financial institution, as per the provisions of Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002; and (b) In case the debenture holder is not a bank/ financial institution, as per the common law procedures.

– Other remedies: Any default in the terms of the debentures is a breach of contract, and the debenture holder may sue the company for breach of contract as per the provisions of Contract Act, 1872, and further seek for compensation as per the terms of the debenture, or in absence of specific term in the agreement, compensation may be claimed as per the provisions of Section 73 of the Contract Act, 1872.

Issues cropping up due to COVID- 19 and the resolution thereof:

In view of the COVID pandemic one of the issue that was arising was that the issuers of debt instruments who were not able to fulfil the obligations as per the terms of the debentures or redeem the same on the maturity date were running to courts for seeking interlocutory reliefs, seeking to restrain the debenture holders from exercising any rights against the defaulting issuer. In the case of Indiabulls Housing Finance Ltd. vs. SEBI[7], the petitioner prayed for an ad interim direction to restrain any coercive action against it, with respect to the repayment to be made by it to its non-convertible debenture holders. In the said case, granting the prayer, the Hon’ble Delhi High Court directed maintenance of status quo with respect to the repayments to be made by the petitioner to the NCD holders.

Further, there was a lack of clarity on how rating and valuation of a security would be revised in view of the default or the restructuring? Therefore, SEBI has issued the following circulars:

  • SEBI, vide a circular no. SEBI/ HO/ MIRSD/ CRADT/ CIR/ P/ 2020/53 dated March 30, 2020[8], granted certain relaxation from compliance with certain provisions of the circulars issued under SEBI (Credit Rating Agencies) Regulations, 1999 due to the COVID-19 pandemic.

With respect to recognition of default, the circular stipulates that CRAs recognize default  based  on  the guidance issued  vide  SEBI circular dated May 3, 2010[9] and November 1, 2016[10], however, based on its assessment, if the CRA is of the view that the delay  in  payment  of  interest/principle  has  arisen  solely  due  to  the  lockdown  conditions   creating   temporary   operational   challenges   in   servicing   debt, including due to procedural delays in approval of moratorium on loans by the  lending institutions, CRAs may not consider the same as a default event and/or  recognize default.

  • Further, SEBI has, vide its circular no. SEBI/HO/IMD/DF3/CIR/P/2020/70 dated 23.04.2020[11], reviewed certain provisions of  the  circular  dated  09.2019[12] issued under  SEBI  (Mutual  Funds)  Regulations,  1996. In the circular, SEBI has stipulated that based  on  assessment,  if  the valuation  agencies appointed  by Association of Mutual Funds in India are of the view that the delay in payment of interest/principal or extension of  maturity of  a  security  by  the  issuer has  arisen  solely  due  to  COVID-19 pandemic  lockdown  creating   temporary   operational   challenges   in   servicing   debt, then valuation  agencies may  not  consider  the  same as  a  default for the  purpose of valuation of money market or debt securities held by mutual funds.

Restructuring Process and the Formalities associated thereto:

In the context of COVID, the restructuring of debentures shall mean nothing but deferral of the date of redemption. The terms of the debentures, including the maturity date, etc is specified in the terms of issuance. The terms of issuance also provides how the variation in terms can be effectuated. Therefore, it is pertinent that to make any changes in terms of debentures, the relevant clauses in the issuance terms are considered.

In terms of Reg. 59 (2) of the SEBI LODR Regulations, 2015, any material modification to the structure of debentures in terms of coupon redemption etc. are required to approved by the Board of Directors and the debenture trustee (DT). Further, in terms of Reg. 59(1), prior approval of the stock exchange(s) shall also be required for such material modification which shall be given by the stock exchange(s) only after obtaining the approval of the Board and the DT.

In addition to the approval as aforesaid, in terms of Regulation 15(2)(b) of SEBI DT Regulations, DT is required to call a meeting of the debenture holders on happening of any event which in the opinion of the DT affects the interest of the holders. Similar provision is there in the Companies (Share Capital and Debenture) Rules, 2014 also [sub- rule (4) of Rule 18].

Unlike the requirements of obtaining shareholders’ consent by way of special/ ordinary resolution for various matters including variation of rights thereof, there is no explicit provision  for obtaining of a consent of the debenture holders for restructuring of the debentures under the Companies Act, 2013 (‘CA 13’). However, the provisions of SS 2 being, mutatis mutandis, applicable to a meeting of debenture holders also, all the provisions w.r.t convening/ conducting of general meeting such as, sending of notice, explanatory statement etc. as applicable to general meetings shall apply to the meeting of debenture holders.

However, looking at the current crisis situation, where calling of a physical meeting is not possible, and issuers will be required to hold the meeting of the debenture holders, in case consent by e-mail is not possible due to the large number of debenture holders, through video conferencing mode. The modalities for participation (like voting, two-way communication, recording, etc.) and other compliances related of sending of notices etc. may be in the manner clarified by the MCA Circular dated 13.04.2020[13].

In a nutshell, the procedural requirements to be followed for restructuring of debentures shall be as provided hereunder.

S. No

 

Relevant Provisions Actionable/ Compliance Remarks
1. Regulation 50 (3) of LODR Regulations Prior intimation to the stock exchange (SE) for the meeting board of directors, at which the restructuring is proposed to be considered.

 

2 working days in before the board meeting.

 

(excl. date of intimation and date of meeting)

2. Sec. 173 of CA 13 BM to be convened by the Company for proposed restructuring including the revised terms subject to approval of the stock exchanges and the debenture holders.

 

Through VC considering the COVID 19 Guidelines issued by the Govt. Our FAQs in this regard may be found at : https://www.google.com/url?q=http://vinodkothari.com/2020/03/board-meetings-during-shutdown/&sa=D&source=hangouts&ust=1587820272757000&usg=AFQjCNEictCwK_-LNnlH7oiB1GMmdRzO6w

 

3. Regulation 59(2)(a) of LODR Regulations

 

Obtain approval of the DT Before applying to SEs.
4. Regulation 59 of the Listing Regulations Seek prior approval from the stock exchange

 

After taking the consent of the board of directors and DT.

 

5. Regulation 15(2) of DT Regulations, 1993 Separate meeting of debenture holders to be called for deferment in repayment due to liquidity crunch in the hour of crisis.

 

The meeting may be called by the company itself or through the DT.

Since the scope of SS 2 issued by ICSI includes meetings of debenture holders also, the company will have to observe the requirements of SS 2 in convening the meeting of debenture holders. However, considering the current crisis situation, such meeting may be convened through VC facility as clarified by MCA Circular dated 13th April, 2020. Our FAQs in this regard may be found at http://vinodkothari.com/2020/04/general-meetings-by-video-conferencing-recognising-the-inevitable/

 

6. Regulation 51 (2) of the Listing Regulations Intimation to the stock exchanges being an action that shall affect payment of interest or redemption of NCDs

 

 

ASAP but not later than 24 hours of Board decision.

 Documentation Requirements:

In usual circumstances, if any variation is carried out in the debenture terms, the parties enter into an addendum, amending the clauses contained in the debenture subscription agreement (and also, in the trust deed/ security documents, if required), however, given the current scenario and the lock down, it is not possible for parties to sign and execute the agreements. Since the restructuring already has the approval of the majority debenture holders, it is deemed that the resolution “overrides the terms of issuance”. Thus, in our view, the resolution passed by the debenture holders approving the restructuring should suffice, and modification in the agreements may not be required.


[1] https://www.icra.in/Rationale/ShowRationaleReport/?Id=94320

[2] The rating agency has stated that the list is not a comprehensive one, as information about some rated entities are not readily available as of now, and separate disclosures will be made w.r.t. such entities.

[3]https://www.sebi.gov.in/legal/circulars/mar-2020/relaxation-from-compliance-with-certain-provisions-of-the-circulars-issued-under-sebi-credit-rating-agencies-regulations-1999-due-to-the-covid-19-pandemic-and-moratorium-permitted-by-rbi-_46449.html

[4] https://www.sec.gov/Archives/edgar/data/1065696/000119312511118050/dex101.html

[5] 2002 (2) BomCR 608, (2002) 2 BOMLR 915, 2003 113 CompCas 466 Bom, 2002 (2) MhLj 322

[6] AIR 2008 Bom 16, (2007) 77 SCL 92 Bom

[7]https://images.assettype.com/barandbench/2020-04/6ec54849-0188-4fe3-a841-88c2861124d5/Indiabulls_vs_SEBI.pdf

[8]https://www.sebi.gov.in/legal/circulars/mar-2020/relaxation-from-compliance-with-certain-provisions-of-the-circulars-issued-under-sebi-credit-rating-agencies-regulations-1999-due-to-the-covid-19-pandemic-and-moratorium-permitted-by-rbi-_46449.html

[9] https://www.sebi.gov.in/legal/circulars/may-2010/guidelines-for-credit-rating-agencies_1467.html

[10]https://www.sebi.gov.in/legal/circulars/nov-2016/enhanced-standards-for-credit-rating-agencies-cras-_33585.html

[11]https://www.sebi.gov.in/legal/circulars/apr-2020/review-of-provisions-of-the-circular-dated-september-24-2019-issued-under-sebi-mutual-funds-regulations-1996-due-to-the-covid-19-pandemic-and-moratorium-permitted-by-rbi_46549.html

[12] https://www.sebi.gov.in/legal/circulars/sep-2019/valuation-of-money-market-and-debt-securities_44383.html

[13] http://www.mca.gov.in/Ministry/pdf/Circular17_13042020.pdf

 

Please click below for youtube presentation on the above topic:

 

Our other content related to COVID-19 disruption may be referred here: http://vinodkothari.com/covid-19-incorporated-responses/

Our other articles relating to restructuring on account of COVID-19 disruption may also be viewed here:

COVID- 19 AND THE SHUT DOWN: THE IMPACT OF FORCE MAJEURE

-Richa Saraf (richa@vinodkothari.com)

 

COVID- 19 has been declared as a pandemic by the World Heath Organisation[1], and the Ministry of Health and Family Welfare has issued an advisory on social distancing[2], w.r.t. mass gathering and has put travel restrictions to prevent spreading of COVID-19. On 19th February, 2020, vide an office memorandum O.M. No. 18/4/2020-PPD[3], the Government of India has clarified that the disruption of the supply chains due to spread of coronavirus in China or any other country should be considered as a case of natural calamity and “force majeure clause” may be invoked, wherever considered appropriate, following the due procedure.

In view of the current situation where COVID- 19 has a global impact, and is resulting in a continuous sharp decline in the market, it is important to understand the relevance of force majeure clauses, and the effect thereof.

Meaning Of Force Majeure:

The term has its origin from French, meaning “greater force”. Collins Dictionary[4] defines “force majeure” as “irresistible force or compulsion such as will excuse a party from performing his or her part of a contract

The term has been defined in Cambridge Dictionary[5] as follows:

“an unexpected event such as a war, crime, or an earthquake which prevents someone from doing something that is written in a legal agreement”.

In Merriam Webster Dictionary[6], the term has been defined as “superior or irresistible force” and “an event or effect that cannot be reasonably anticipated or controlled”.

In light of COVID- 19, a pertinent question that may arise here is whether COVID- 19 shut down will be regarded as a force majeure event for all the agreements, providing a leeway to the parties claiming impossibility of performance? Further, whether such non-compliance of the terms of the agreement will neither be regarded as a “default committed by any party” nor a “breach of contract”?  The general principle is that an event will be regarded as a force majeure event on fulfilment of the following conditions:

  • An unexpected intervening event occurred: The event should be one which is beyond the control of either of the parties to the agreement, similar to an Act of God;
  • The parties to the agreement assumed such an event would not occur: A party’s non-performance will not be excused where the event preventing performance was expected or was a foreseeable risk at the time of the execution of the agreement; and
  • The unexpected event made contractual performance impossible or impracticable: For instance, can the issuer of debentures say that there is no default if the issuer is unable to redeem the debentures? Whether an event has made contractual performance impossible or impracticable has to be determined on a case-to-case basis. It is to be analysed whether the problem is so severe so as to deeply affect the party, and thereby creating an impossibility of performance. This has to be, however, relative to the counterparty so as to create an impossibility of performance.
  • The parties have taken all such measures to perform the obligations under the agreement or atleast to mitigate the damage: It is required that a party seeking to invoke force majeure clause should follow the requirements set forth the agreement, i.e. to provide notice to the other party as soon as it became aware of the force majeure event, and should concretely demonstrate how the said situation has directly impacted the performance of obligations under the agreement.

To understand this further, let us discuss the precedents laid down in several cases.

Principles in Other Jurisdictions:

Prior to the decision in Taylor vs. Caldwell, (1861-73) All ER Rep 24, the law in England was extremely rigid. A contract had to be performed after its execution, notwithstanding the fact that owing to an unforeseen event, the contract becomes impossible of performance, which was not at the fault of either of the parties to the contract. This rigidity of the common law was loosened somewhat by the decision in Taylor (supra), wherein it was held that if some unforeseen event occurs during the performance of a contract which makes it impossible of performance, in the sense that the fundamental basis of the contract goes, it need not be further performed, as insisting upon such performance would be unjust.

In Gulf Oil Corp. v. FERC 706 F.2d 444 (1983)[7], the U.S. Court of Appeals for the Third Circuit considered litigation stemming from the failure of the oil company to deliver contracted daily quantities of natural gas. The court held that Gulf- as the non- performing party- needed to demonstrate not only that the force majeure event was unforeseeable but also that the availability and delivery of the gas were affected by the occurrence of a force majeure event.

Illustrations: When Is An Event Not Considered As Force Majeure?

Inability to sell at a profit is not the contemplation of the law of a force majeure event excusing performance and a party is not entitled to declare a force majeure because the costs of contract compliance are higher than it would have liked or anticipated. In this regard, the following cases are relevant:

  • In the case of Dorn v. Stanhope Steel, Inc., 534 A.2d 798, 586 (Pa. Super. Ct. 1987)[8], it was observed as follows:

“Performance may be impracticable because extreme and unreasonable difficulty, expense, injury, or loss to one of the parties will be involved. A severe shortage of raw materials or of supplies due to war, embargo, local crop failure, unforeseen shutdown of major sources of supply, or the like, which either causes a marked increase in cost or prevents performance altogether may bring the case within the rule stated in this Section. Performance may also be impracticable because it will involve a risk of injury to person or to property, of one of the parties or of others, that is disproportionate to the ends to be attained by performance. However, “impracticability” means more than “impracticality.” A mere change in the degree of difficulty or expense due to such causes as increased wages, prices of raw materials, or costs of construction, unless well beyond the normal range, does not amount to impracticability since it is this sort of risk that a fixed-price contract is intended to cover.”

  • In Aquila, Inc. v. C.W. Mining 545 F.3d 1258 (2008)[9], Justice Neil Gorsuch authored an opinion for the U.S. Court of Appeals for the 10th Circuit, which excused a coal mining company’s deficient performance under a coal supply contract with a public utility only to the extent that partial force majeure, namely labor dispute, caused deficiency.
  • In  OWBR LLC v. Clear Channel Communications, Inc., 266 F. Supp. 2d 1214[10], it was observed- “To excuse a party’s performance under a force majeure clause ad infinitum when an act of terrorism affects the American populace would render contracts meaningless in the present age, where terrorism could conceivably threaten our nation for the foreseeable future”.
  • In Transatlantic Financing Corp. v. U.S. 363 F.2d 312[11], the D.C. Circuit Court of Appeals affirmed a finding that there was no commercial impracticability where one party sought to recover damages because its wheat shipment was forced to be re-routed due to the closing of the Suez Canal. The Court of Appeals held that because the contract was not rendered legally impossible and it could be presumed that the shipping party accepted “some degree of abnormal risk,” there was no basis for relief.

Some Landmark Rulings in India:

Deliberating on what is to be considered as a force majeure, in the seminal decision of Satyabrata Ghose v. Mugneeram Bangur & Co., 1954 SCR 310[12], the Hon’ble Apex Court had adverted to Section 56 of the Indian Contract Act. The Supreme Court held that the word “impossible” has not been used in the Section in the sense of physical or literal impossibility. To determine whether a force majeure event has occurred, it is not necessary that the performance of an act should literally become impossible, a mere impracticality of performance, from the point of view of the parties, and considering the object of the agreement, will also be covered. Where an untoward event or unanticipated change of circumstance upsets the very foundation upon which the parties entered their agreement, the same may be considered as “impossibility” to do as agreed.

Subsequently, in Naihati Jute Mills Ltd. v. Hyaliram Jagannath, 1968 (1) SCR 821[13], the Supreme Court also referred to the English law on frustration, and concluded that a contract is not frustrated merely because the circumstances in which it was made are altered. In general, the courts have no power to absolve a party from the performance of its part of the contract merely because its performance has become onerous on account of an unforeseen turn of events. Further, in Energy Watchdog v. CERC (2017) 14 SCC 80[14], it was observed as follows:

“37. It has also been held that applying the doctrine of frustration must always be within narrow limits. In an instructive English judgment namely, Tsakiroglou & Co. Ltd. v. Noblee Thorl GmbH, 1961 (2) All ER 179, despite the closure of the Suez canal, and despite the fact that the customary route for shipping the goods was only through the Suez canal, it was held that the contract of sale of groundnuts in that case was not frustrated, even though it would have to be performed by an alternative mode of performance which was much more expensive, namely, that the ship would now have to go around the Cape of Good Hope, which is three times the distance from Hamburg to Port Sudan. The freight for such journey was also double. Despite this, the House of Lords held that even though the contract had become more onerous to perform, it was not fundamentally altered. Where performance is otherwise possible, it is clear that a mere rise in freight price would not allow one of the parties to say that the contract was discharged by impossibility of performance.

38. This view of the law has been echoed in ‘Chitty on Contracts’, 31st edition. In paragraph 14-151 a rise in cost or expense has been stated not to frustrate a contract. Similarly, in ‘Treitel on Frustration and Force Majeure’, 3rd edition, the learned author has opined, at paragraph 12-034, that the cases provide many illustrations of the principle that a force majeure clause will not normally be construed to apply where the contract provides for an alternative mode of performance. It is clear that a more onerous method of performance by itself would not amount to a frustrating event. The same learned author also states that a mere rise in price rendering the contract more expensive to perform does not constitute frustration. (See paragraph 15-158)”

General Force Majeure Clauses in Agreements and the Impact Thereof:

While some of the agreements do have a force majeure clause, one question that may arise is whether the excuse of force majeure event be taken only if there is a specific clause in the agreement or event otherwise? Typically, in all the agreements, whether the promisor is under the obligation to promptly inform the promisee in case of occurrence of any event or incidence, any force majeure event or act of God such as earthquake, flood, tempest or typhoon, etc or other similar happenings, of which the promisor become aware, which is reasonably expected to adversely affect the promisor, or its ability to perform obligations under the agreement.

The terms of the agreement and the intent has to be understood to determine the effect of force majeure clause.  In Phillips P.R. Core, Inc. v. Tradax Petroleum Ltd., 782 F.2d 314, 319 (2d Cir. 1985)[15], it was observed that the basic purpose of force majeure clauses is in general to relieve a party from its contractual duties when its performance has been prevented by a force beyond its control or when the purpose of the contract has been frustrated.

The next question that may arise is whether every force majeure leads to frustration of the contract? For instance, if the agreement was hiring of a car on 24th March, the occurrence of COVID- 19 may just have the impact of altering the timing of performance. In some other cases, the event may only affect one part of the transaction. Therefore, the impact of the force majeure event cannot be generalised and shall vary depending on the nature of transaction.

Usually, occurrence of a force majeure event provides the promisee with a right to terminate the agreement, and take all necessary actions as it may deem fit. For instance, in case of lease, if the lessor considers that there is a risk to the equipment, the lessor may seek for repossession of the leased equipment.

Further, in case the force majeure event frustrates the very intent of the agreement, then the parties are under no obligation to perform the agreement. For instance, if the agreement (or performance thereof) itself becomes unlawful due to any government notification or change in law, which arises after execution of the agreement, then such agreements do not have to be performed at all. In such cases, if the agreement contains a force majeure or similar clause, Section 32 of the Indian Contract Act will be applicable. The said section stipulates that contingent contracts to do or not to do anything if an uncertain future event happens, cannot be enforced by law unless and until that event has happened; If the event becomes impossible, such contracts become void. Even if the agreement does not contain a specific provision to this effect then in such a case doctrine of frustration under Section 56 of the Indian Contract Act shall apply. The section provides that a contract to do an act which, after the contract is made, becomes impossible, or, by reason of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful.

Impact of COVID- 19 on Loan Transactions:

The Reserve Bank of India has, vide notification No. BP.BC.47/21.04.048/2019-20 dated 27th March, 2020[16], has announced that in respect of all term loans (including agricultural term loans, retail and crop loans), all commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies) are permitted to grant a moratorium of three months on payment of all instalments falling due between 1st March, 2020 and 31st May, 2020. Further, in respect of working capital facilities sanctioned in the form of cash credit/overdraft, the lending institutions have been permitted to defer the recovery of interest applied in respect of all such facilities during the period from 1st March, 2020 upto 31st May, 2020.

Detail discussion on the same has been done in our article “Moratorium on loans due to Covid-19 disruption”, which can be accessed from the link below:

http://vinodkothari.com/2020/03/moratorium-on-loans-due-to-covid-19-disruption/

Further, our article “RBI granted moratorium on term loans: Impact on securitisation and direct assignment transactions” can be accessed from the following link:

http://vinodkothari.com/2020/03/rbi-moratorium-on-term-loans-impact-on-sec-and-da-transactions/

 

 

[1] https://www.who.int/emergencies/diseases/novel-coronavirus-2019/events-as-they-happen

[2] https://www.mohfw.gov.in/pdf/SocialDistancingAdvisorybyMOHFW.pdf

[3] https://doe.gov.in/sites/default/files/Force%20Majeure%20Clause%20-FMC.pdf

[4] https://www.collinsdictionary.com/dictionary/english/force-majeure

[5] https://dictionary.cambridge.org/dictionary/english/force-majeure

[6] https://www.merriam-webster.com/dictionary/force%20majeure

[7] https://casetext.com/case/gulf-oil-corp-v-ferc

[8] https://law.justia.com/cases/pennsylvania/supreme-court/1987/368-pa-super-557-0.html

[9] https://www.courtlistener.com/opinion/171400/aquila-inc-v-cw-mining/

[10] https://law.justia.com/cases/federal/district-courts/FSupp2/266/1214/2516547/

[11] https://www.casemine.com/judgement/us/59149a86add7b0493462618f

[12] https://indiankanoon.org/doc/1214064/

[13] https://indiankanoon.org/doc/1144263/

[14] https://indiankanoon.org/doc/29719380/

[15] https://law.justia.com/cases/federal/appellate-courts/F2/782/314/300040/

[16] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11835&Mode=0

 

Further content related to Covid-19: http://vinodkothari.com/covid-19-incorporated-responses/