Call & Put options are common to most joint ventures and shareholder agreements, but till October last year, these pre-emption rights existed in a legally gray area. In October, Sebi permitted right of first refusal (ROFRs), drag & tag rights and Call & Put options to be included in shareholder agreements and articles of association.
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However, the Reserve Bank of India (RBI), which has also been objecting to such pre-emption rights was yet to give the go-ahead. It has finally done that this year. The notification allows for shares and convertible debentures to have such optionality clauses- that is the most important piece of news and that is definitely good news.
However, it says that such optionalities or rights cannot involve an assured price exit. The RBI was opposed to that and they have maintained that position here, so, no surprises at all.
In that notification RBI has gone on to say that the exit price when it comes to listed equity with such optionalities has to be at market price which is all fair and good.
However here is the big twist, when it comes to the exit price for unlisted equity with such optionality they have said that it has to be at an RoE based price. So, price linked to the return on equity or a price which is more than the required margin put in there in that agreement for an return on equity.
That is where the twist comes in because when a foreign investor invests in an Indian company in the country if the equity is unlisted the foreign investor invests at a discounted cash flow (DCF) based calculation or investment price; that is the floor. Now, when you exit you have to exit if there is an optimality involved at an RoE linked price. So, that is a little confusing.
The third element that they have said in the notification is that the exit price for preferential shares and debentures can be done as per an internationally accepted pricing methodology as long as you have a CA certificate or a certificate for merchant banker.
Hence, this is mixed news. It is good news and bad news. It is mostly confusing news when it comes to the unlisted bit.
Bharat Vasani, of the Group General Council at Tata Group says,"The Reserve Bank of India (RBI) has put an end to long pending controversy with regard to its position on Put & Call Options in favour of non-residents. However, in the process of legalising Put & Call Options, it has put in conditionalities which could be perceived negatively by the long term foreign investors as RoE or return on equity is not the appropriate method to determine fair value of shares particularly when they are required to invest using DCF valuations as the floor price. The positive development is a fair degree of flexibility introduced by RBI, of investing via compulsorily convertible preference shares or debentures as conversion to equity for exit is no longer necessary."
So, it is a good deal when it comes to listed equity, a good deal when it comes to compulsory convertible debentures (CCDS) or compulsory convertible preference shares (CCPS) but a confusing deal when it comes to unlisted equity and that is going to be the key takeaway from this notification unless we have little bit more clarity from RBI.
Sections of India Inc maybe very disappointed but viewers of this channel should have been prepared because way back in October itself we had brought to you the news that RBI is going to allow for Call & Put Options but it is going to de-link the pricing from any assured return or even from DCF and they have stood true to that ground.
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