India: Insurance Newsletter – October 2015

"CONTROLLED" CLARIFIED – CHANGING RULES OF THE GAME?

The Insurance Regulatory and Development Authority of India ("IRDAI") has issued Guidelines ("Guidelines") on 19 October 2015 to further clarify "Indian Owned and Controlled" requirement for Indian insurance companies. As previously reported in our newsletters, the cap on foreign investment in Indian insurance companies ("Insurers") has been increased to 49% (from the earlier 26%) subject to them being "Indian owned and controlled, in such manner as may be prescribed". Earlier this year, the Central Government had issued1 the Indian Insurance Companies (Foreign Investment) Rules, 2015 ("Rules") to prescribe the manner of ownership and control of Insurers2 as defined under the amended (Indian) Insurance Act, 1938 ("Amended Act").

News reports suggest that the IRDAI has issued the Guidelines amid concerns that the Foreign Investment and Promotion Board is approving proposals for increase in foreign investment stake in Indian insurance companies without examining compliance with Indian "Indian owned and controlled" related issues.

I. Indian "control" related issues: an overview

The Amended Act defines "control" to include the right to appoint majority of directors or to control the management or policy decisions including contractually.

While the Rules required "ownership" and "control" to vest with resident citizens, they did not clarify the scope of "control". Accordingly, there were concerns particularly in the context of existing joint ventures as to whether "control" would extend to typical shareholders' rights (e.g., veto rights).

Accordingly, a key concern particularly from an existing investors' perspective was whether the IRDAI would consider typical minority protection/veto rights as constituting control. In light of this, the key clarifications issued by the IRDAI through the Guidelines are set out below.

II. Applicability of the Guidelines

The Guidelines apply to all insurance companies including existing insurance companies (having 26% stake) and insurance intermediaries such as brokers, third party administrators, surveyors and loss assessors3.

III. Elements of "Indian control" and prior position

The Guidelines require Insurers to ensure the following:

(a) their Board of Directors ("Board") comprises a majority of non-independent directors nominated by the Indian investor;

Note: The IRDAI always applied this requirement even under the earlier regime.

(b) their key management persons (including the CEO and MD) are appointed either through the Board or by the Indian investor;

Note: The IRDAI has in the past allowed foreign investors to nominate the CEO or MD and this is a substantial right that an existing investor would cease to have. This intends to vest day to day operational control in the hands of the Indian investor.

(c) foreign investor(s) nominate key management persons subject to approval by the Board;

Note: This was not regulated under the earlier regime and effectively gives the Indian investor veto rights through majority on the Board.

(d) their "significant policies" are controlled by the Board;

Note: This was also not regulated earlier and the scope of this condition is unclear especially since the IRDAI has not clarified what would constitute significant policies (i.e., relating to reinsurance or settlement of claims or otherwise).

(e) if the chairman of the Board has a casting vote, then the chairman must be appointed by the Indian promoter(s) or the Indian investor(s); and

(f) the presence of a majority of the directors nominated by the Indian investor must be mandatory to constitute "quorum" whether or not the nominees of the foreign investor are present. An Indian insurance company is free to require the presence of the foreign investor to constitute "quorum" but only as a protective right and not for the purposes of giving "control".

Note: Since, the Guidelines already provide for majority of the Indian investor's nominees on the Board, the requirement to have an Indian investor's nominee to constitute quorum may not be relevant.

The Guidelines are surprisingly silent on affirmative veto rights or voting on reserve matters and fail to clarify how the affirmative veto rights of foreign investors in existing joint ventures will be treated. It would be interesting to see if these rights which are commonly retained in existing joint venture agreements will now be diluted in light of the change in law.

IV. Compliance with the Guidelines and related timelines

4.1 In order to ensure compliance with the Guidelines, the IRDAI has made it mandatory for all Insurers to file an undertaking signed by the CEO and Chief Compliance Officer of such company confirming its compliance with "Indian owned and controlled" requirement. Such undertaking must be accompanied by:

(a) a certified copy of resolution passed by the board of directors confirming such compliance; and

(b) a certified copy of the joint venture agreement(s)/agreement(s) where amendments have been carried out to ensure such compliance.

4.2 All existing Insurers are required to comply with the Guidelines within 3 months of its issuance. Such period may be extended by the IRDAI for a further 3 months (subject to a maximum of 6 months) on an application made by the existing insurer citing "valid reasons". All new Insurers are required to comply with the Guidelines as a pre-condition to the grant of the certificate of registration.

COMMENTS

The Guidelines have, to an extent, addressed some of the issues left open ended by the Amended Act and the subsequent Rules of the Central Government. The IRDAI has finally provided some clarity on the status of typical minority protection rights which were commonly enjoyed by foreign investors under the earlier regime – the quorum requirements under the Guidelines throw light on this issue and clarify that the presence of nominee(s) of the foreign investors as part of the quorum is a "protective" right intended to give such investors only blocking rights. As a consequence, the Guidelines appear to substantially dilute the other rights available to foreign investors under existing joint venture agreements by concentrating control in the hands of the Indian investors and reduce the position of their foreign counterparts to mere investors. In light of this, the IRDAI may be perceived to be effectively taking away the rights of existing foreign investors which it itself had approved under the earlier regime.

Footnotes

1 By way of a notification dated 19 February 2015.

2 An "Indian insurance company" has been defined to mean any insurer, being a company which is limited by shares, and, amongst others "in which the aggregate holdings of equity shares by foreign investors, including portfolio investors, do not exceed 49% of the paid up equity capital of such Indian insurance company, which is "Indian owned and controlled", in such manner as may be prescribed".

3 However, in the event an insurance intermediary has more than 50% of its revenue from non-insurance activities, these Guidelines will not be applicable.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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