India: ‘Preferential Allotment' In Restructuring Schemes

Last Updated: 20 September 2017
Article by K. A. Najmi and Y. Sriniwas Arun

The restructuring of stressed assets under the Strategic Debt Restructuring Scheme (SDR), the Scheme for Sustainable Structuring of Stressed Assets (S4A) or any other deep restructuring under the extant guidelines of the Reserve Bank of India (RBI) seeks to achieve timely resolution of stressed assets.

The purpose of the restructuring is to enable the borrowing company to address intermittent cash stress and meet the repayment obligations of its debts by converting the unsustainable portion of debt into equity or an equity-like instrument, thus substantially reducing the debt repayment and servicing obligation of the company for a considerable time.

A comparison between the allotment of securities by further issue in the normal course and allotments pursuant to the restructuring schemes reveals substantial differences in the processes.

In the case of further issue in the normal course, the Companies Act, 2013, and the rules made under it set out a significant and proactive role for the board of directors in driving the process of further issue of capital by private placement/preferential allotment.

As against this, S4A involves identification or acknowledgement of a stress situation (either current or potential), building consensus on the need for restructuring, subjecting the company to a techno economic viability study by an independent agency, drafting a resolution plan (based on the study) by the majority of the lenders and submitting it to the overseeing committee. The committee reviews the plan and examines whether it is in conformity with the S4A guidelines. If the plan is found to be in order, it becomes binding on the lenders. It is then communicated to the borrower, which is expected to carry out all corporate compliances and allot the securities as per the resolution plan.

A doubt has been raised in some quarters as to whether the issue of securities pursuant to restructuring schemes is in compliance with the Companies Act and rules framed under it in relation to preferential allotment on a private placement basis. Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014, lays down that the issue of shares on a preferential basis should comply with section 42, which in turn stipulates issuance of a "private placement offer letter" by the company. Under S4A the need to make preferential allotment on a private placement basis emanates from approval of the resolution plan by the lenders and is not a normal business need or outcome.

The resolution plan, on being approved, is communicated to the company and triggers further action on the part of the company to achieve the following: (i) approval of implementation of the resolution plan by the shareholders and the board of directors; (ii) issuance of securities pursuant to section 62 and other applicable provisions of the Companies Act pertaining to allotment of securities; and (iii) amendment of the articles of association, if required.

The restructuring schemes have been formulated to address larger interests and are vital for managing the non-performing assets of banks. Hence, the schemes call for a holistic approach from a compliance perspective in accord with the underlying spirit and intent of the legislative prescriptions.

Section 62(3) of the Companies Act allows conversion of debt into equity. However, difficulty is encountered in cases where the conversion option is not available to the lender under the loan agreement and/or a special resolution under section 62(3) was not passed. It is desirable that sub-section (3) of section 62 be suitably amended or that the applicability of sub-sections (4), (5) and (6) of section 62 be extended for the securities issued pursuant to the restructuring schemes.

Another area of concern in the formulation of the resolution plan under S4A has been the pricing of listed shares for conversion purposes where such shares are traded at a price which is far from being representative of their real value as arrived at on the basis of the techno economic viability report prepared by an independent agency.

Where, despite the high price at which the company's shares are being traded, the borrower is in financial distress and approaches its lenders for restructuring of debt, S4A becomes difficult to apply. This is because, under the regulations of the Securities and Exchange Board of India, the debt is to be converted into equity at a price at which the shares are being traded in the market. Hence, in such situations, allowing conversion at a fair value on a case-to-case basis could go a long way in resolving the pricing issue and thus achieving the objective of the restructuring schemes.

Recent Amendments

Recent amendment to Legal Metrology (Packaged Commodity) Rules, 2011.

  1. The Legal Metrology (Packaged Commodities) Rules ("Rules"), 2011 regulates pre-packaged commodities and provides, among other things, certain mandatory declarations to be made on the package or on the label affixed on the package.
  2. Recently, the Ministry of Consumer Affairs, Foods and Public Administration ("Ministry") has notified Legal Metrology (Packaged Commodities) Amendment Rules, 2017 ("Amendment Rules"). The Amendment Rules are aimed at enhancing customer protection, while also balancing the requirement of ease of doing business. The Amendments Rules shall come into force with effect from January 1, 2018.
  3. The substantial changes that have been made to the Rules by the Amendment Rules are summarized below:

    1. The definition of 'institutional consumer' under Rule 2 has been amended to prevent commercial transactions by such institutions. Accordingly, 'institutional consumer' means the institution which buys packaged commodities bearing a declaration 'not for retail sale', directly from the manufacturer or from an importer or from wholesale dealer for use by that institution and not for commercial or trade purposes.
    2. In respect of packages containing food articles, the declaration of name and address of manufacturer, packer and /or importer as provided in Rule 6 (1) (a) of the Rules shall not be applicable and such declarations are required to be made as per requirements specified in Food Safety and Standards Act, 2006. Prior to the Amendment Rules, the entire Rule 6 (1) was not applicable to packages containing food articles, and all the declarations were required to be made as per Food Safety and Standards Act, 2006.
    3. In case of imported products, name of the country of origin or manufacture or assembly should be mentioned on the package.
    4. Declarations such as 'best before or use by date, month and year' should be mentioned on the packages containing items that can become unfit for consumption after the expiry of the stated time. The terms "best before" and "use by date" have been defined. However, if any other law has provisions in respect of "best before" / "use by date", the provisions of the Rules in this regard shall not apply.
    5. Placing barcodes, e-codes and authorized logos of Government schemes, such as Swatch Bharat Mission on the packages has been made discretionary. However, e-code for net quantity assurance of the commodity and other required declarations may be made only after obtaining the same in the manner as specified by the Central Government.
    6. E-commerce entities or in case of market-place model of e-commerce, the manufacturers or the sellers are required to display all the mandatory declarations specified in the Rules, except for month and year in which the commodity is manufactured or packed, on the digital and electronic networks used for e-commerce transactions.
    7. The specifications of height and width of declaration made on the package has been increased, particularly for packages with principal display panel of 50 to 500 square centimeters. Further, the manner of determining the area of principal display panel has also been provided in Rule 7.
    8. Specific mention has been made in the Rules that no person shall declare different MRPs (dual MRPs) on identical pre-packaged commodity unless permitted under any law. This will have a huge impact on the consumers, manufacturers and retailers as no person can overcharge for identical products.
    9. The manner of carrying out test of quantity and error and manner of deciding the samples for the purposes of conducting inspection has been made more scientific.
    10. Definition of the terms consumer, e-commerce, e-commerce entity and marketplace based model of e-commerce has been inserted in the Rules.
    11. Penalty for contravention of provisions where specific penalty is not provided has been enhanced from INR 2,000 to INR 5,000.
  4. In addition to the above, the Ministry has, vide notice dated July 4, 2017 ("Notice"), provided certain clarifications in respect of unsold stock of pre-packaged commodities, subsequent to the introduction of Goods and Services Tax with effect from July 1, 2017. As per the Notice:

    1. Manufacturers, packers or importers of pre-packed commodities are permitted to declare the changed retail sale price (MRP) due to imposition of GST ("Changed Price"), on unsold stock manufactured/packaged/imported prior to July 1, 2017, only till September 30, 2017.
    2. The Changed Price may be mentioned by way of stamping, sticker or printing.
    3. The Changed Price shall not be more than the increase in GST or any fresh tax made applicable on the product.
    4. The Changed Price shall not overwrite the original price already printed on the package.
    5. Notice of Changed Price must be advertised in newspapers, circulated to dealers and to the Director / Controller of Legal Metrology.
    6. Any packaging material or wrapper which could not be exhausted by the manufacturer/packer/importer prior to July 1, 2017, may be used for packaging of material up to September 30, 2017 or till such date the packaging material or wrapper is exhausted, whichever is earlier, after mentioning the Changed Price and adhering to the abovementioned conditions.
  5. As mentioned above, the primary objective of the Amendment Rules is to bring more transparency and accountability. Further, the Notice, with the objective of keeping in pace with the tax reforms, provides transition provisions. It is important for companies dealing with pre-packaged commodities meant for retail consumption in India to review their labels and make necessary changes to ensure that they are not violating the applicable laws, as amended from time to time.

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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