SDD non-compliance to entail stringent action from exchanges
Lavanya Tandon, Executive | corplaw@vinodkothari.com
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SEBI’s IG on RP identification by unlisted subsidiaries
Team Vinod Kothari & Company | corplaw@vinodkothari.com
October 14, 2024
Related Party Transactions (‘RPT’) regime under the Listing Regulations, consequent to substantial amendments made in November, 2021[1], is very wide and includes cross RPTs across the group. That is, transactions of a listed entity with related parties of its subsidiaries; as well as, transactions of a subsidiary (listed or unlisted) with related parties of the parent listed entity would come under the purview of “related party transactions”; and therefore, would be subject to enhanced controls at the parent level.
Therefore, the prerequisite for effective implementation of the RPT controls is the correct identification of the Related Party (‘RP’) at both levels – by the parent and by the subsidiary. While in the case of a listed entity, it is clear that the definition of RP under LODR has to be followed; there was a lack of clarity as to whether an unlisted subsidiary should also follow the same definition or it can simply go by the law as applicable to it.
In this regard, SEBI, in a recent Informal Guidance, has opined that unlisted subsidiaries of the listed entities are required to identify the RPs and RPTs as per the provisions of the LODR Regulations.
Read more: Subsidiaries to refer LODR definition of “related party” – going too far with relationships?Possible alternatives for identifying RPs of subsidiaries
The Listing Regulations under Reg. 2(1)(zb), defines an RP to mean the following:
While the listed entities identified RP based on the above definition, there was a lack of clarity on the manner of RP identification for unlisted subsidiaries in India and overseas. The Listing Regulations do not specify the approach to be followed for identifying RPs of unlisted subsidiaries.
Consequently, there could be two possible approaches – one, the subsidiaries maintain a list of their RPs as per Listing Regulations; alternatively, subsidiaries may be allowed to maintain an RP list as per their respective applicable/local laws[2]. The IG, however, states that the first approach needs to be followed for assessing the RPTs done by the subsidiary with its own RPs.
While the approach of applying an entity-agnostic definition of the Listing Regulations may seem to bring consistency and ease of collation of information across the group; however, there may be several arguments against this approach, as we discuss below.
Issues related to the approach
[Note: As for applicable accounting standards, it very clearly seems to be referring to standards applicable to the entity in question, and therefore, in our view, an entity-agnostic approach does not seem implied there. In the case of overseas entities, “applicable accounting standards” will mean accounting standards as may be applicable to the entity, therefore, entity-specific accounting standards.]
Alternatively, if the subsidiaries identify the RPs based on the definition applicable to it, the same would be more convenient for the subsidiaries as it would anyways maintain the list of RPs to comply with its applicable law.
Concluding remarks
The framework of RPTs requires accurate RP identification to ensure compliance and effective group governance. SEBI’s informal guidance on identifying RPs for unlisted subsidiaries, although provides a view on the approach to identification of related parties by subsidiaries for the purpose of enabling compliances by the listed parent; however, in our humble view, the approach may pose its own set of difficulties as discussed above. On the other hand, a group-wide approach to RPTs which simultaneously respects entity-specific boundaries might be more feasible in terms of ease of interpretation as well as ease of implementation of the law. It is to be noted that the views expressed in the IG are those of the department and do not constitute SEBI’s final decision, as explicitly stated in the IG. Therefore the views expressed in IG should not be seen as the regulators final take on the issue.
In any case, a clear explanation in the Regulations itself might be desired to ensure uniformity in the implementation of RPT controls by listed entities and their unlisted subsidiaries
[1] SEBI (Listing Obligations and Disclosure Requirements) (Sixth Amendment) Regulations, 2021, w.e.f. 1.4.2022
[2] We have discussed both approaches in our write-up, Identification Of Related Parties Of Subsidiaries.
[3] Needless to say that, if the unlisted subsidiary is tracking the RPTs between itself and RPs of its parent listed entity, it will have to the RP list of the parent listed entity prepared in accordance with Listing Regulations.
Simrat Singh, Executive | corplaw@vinodkothari.com
“I decline to read into any enactment, words which are not to be found there and which would alter its operative effect because of provisions to be found in any proviso.”
– Lord Herschell in West Darby Union vs. Metropolitan Life Assurance Society[1]
Listed entities in India bear significant compliance obligations, including enhanced disclosure requirements and scrutiny by regulators, primarily due to the involvement of public funds and retail investors. To ensure market transparency and investor protection, several measures of ensuring a strong corporate governance (CG) culture have been provided by SEBI. Several of such requirements are enumerated under Regulations 17 to 27 of SEBI (LODR) Regulations, 2015[2] and are applicable on listed entities. However, all listed companies are not required to comply with these CG provisions, as Regulation 15(2)(a) provides certain exemptions for small size entities whose paid up equity capital and net worth do not exceed Rs. 10 Cr. and 25 Cr. respectively.
There are 2 things about the carve out for small listed companies – (a) it is based on monetary limits which were prescribed 9 years ago, and never revised since then, though the official loss of value due to inflation itself would be approx 42.9%[3] (b) Though the Regulation provides a twin-test window for qualifying for the exemption – small capitalisation and small net worth, SEBI was reading these qualifying conditions as being cumulative, with the effect that unless a listed entity was small by both these tests, it will not qualify for the exemption.
While the said Regulation provides for exempting specified classes of listed entities, however, the manner in which the amendment to the said exemption was framed raised two different views on availing the said exemption.
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