Mallya Vs USL: Right time for regulator to act, say experts

The British liquor major Diageo took management control of USL from the UB Group in November 2012 for USD 2.1 billion.

Below is the transcript of JN Gupta and Pratibha Jain\\'s interview with Latha Venkatesh and Sonia Shenoy on CNBC-TV18.Sonia: I want to understand legally what is tenable. If the shareholders agree to keep Vijay Mallya on board then what can the Diageo board do from hereon?Jain: Let us understand the facts that are available through public sources. The Diageo currently holds about 55 percent of the company. So they do have the majority in the company, which means they can be controlled both at the shareholder’s level meeting and the board so they can get the resolutions through. In terms of removal of the chairman and the director, the removal of director can only happen at the shareholder level. The process for removal is provided under the companies act is very detailed and there is a strict procedure to be followed, which has taken very seriously especially in India for removal of director, so it is about 45 day process where you have to give notice to the director.Also what we know is that there is an agreement in place between Diageo and Vijay Mallya where Vijay Mallya has been given a vote along right by Diageo to keep Mallya as chairman of the company.To the extent that there is any discrepancy between the shareholders agreement and what the shareholders want to do and the company wants to do in a meeting, if there is diversion, it is what happens as per the articles that rules.The articles will give the power to the majority shareholder if he has more than 50 percent, he can remove a director by following the due process of 45 days and to the extent that the shareholder’s agreement say something to the contrary if there is a breach then you go to the court and you fight over it for the breach of the agreement and for monetary compensation.However, the practice today has become, due to this established rule in India that the shareholders agreement gets incorporated in the articles of the company.So the provision where there is a vote along where Vijay Mallya is required to be as the chairman in Diageo is supposed to vote in favour of any such resolution is in the articles and the company will have to enforce it. So I expect Vijay Mallya to go and get a stay either through Section 9 if there is an arbitration agreement or in a Company Law Board (CLB) or civil suit asking for a stay from this going through if Diageo tries to remove him.

Latha: What are you saying, what will prevail Dr Mallya’s agreement with Diageo that he should be retained as chairman will prevail or the shareholders vote will prevail?Jain: To the extent that the shareholders agreement provision, which requires Diageo to vote in favour of Mallya to stay on as the chairman of the company if that is incorporated in the article then that will prevail unless there is a contrary direction either from a court or a regulator asking the chairman to be removed.Sonia: What is the sense that you are getting?Gupta: We have to divide this problem into two. One is the governance suspect, other is the legal point. As far as the governance is concerned, we always maintain that it starts when the legal boundary stops. So for the governance perspective, Mallya in under cloud and we have been writing it from the beginning that he is under cloud, so as a moral responsibility he should step out till the time his name is cleared.Coming back to legal things as Pratibha (Jain) has said, there is a contract between Diageo and Mallya. How far this contract will sustain or will remain is to be seen because if there is something which has been done wrong, will that contract sustain, it will be known only when we go through the contract. The position is whether the minority shareholders or 46 percent shareholders who are also shareholders of USL along with that should go along with the contract that had been signed between Diageo and something. In my opinion, the Diageo and the company should bring the shareholder agreement for ratification to the shareholder, let us see what minority shareholders do.Coming to the next point, it is going to be a royal legal battle because both sides are not short of money and they have hired the best legal brains. However, the regulator has a very important role to play. We have pointed out earlier that the write-up of Rs 4,500 crore in Whyte & Mackay sell, to us it was a transaction which got a suspicious because seven years in their balance sheet, annual report they have been writing that Whyte & Mackay has been performing well. Suddenly they have to write Rs 4,500 crore, there should be an investigation in each and every transaction that happened between USL and the subsidiaries, which funded Whyte & Mackay.Second thing is last year in November, they had bought about 12 transactions out of which 9 were related party transactions and most of the transactions were of the nature that this is valid till such time that Vijay Mallya is the chairman of the board. So we said this is for the benefit of the company or for the chairman. So all these things needs to be investigated by the regulator and shareholders should ask questions. Issue is what did Diageo do at the time of due diligence.Next point is that as far as my knowledge is concerned, Pratibha Jain would be able to correct me, that chairman of the board is decided by the director legally. It is not elected by the shareholder. Of course the practice in India is that people appoint chairman also in the board but company law states that the board elects its own chairman so the board has very much right to say that okay now XYZ will be the chairman, Vijay Mallya will not be the chairman but the problem would be that because election of Vijay Mallya has happened through the shareholders meeting. However, in my opinion, it is the right time for the regulator to attack or act and see what is there and my request is that the PwC report should be made public, why it should be hidden as any other shareholder.

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Latha: Do you want to answer that, the chairman is normally elected by the board?

Jain: That is correct. So let us look at what publicly has been stated. The resolution that was moved was for removal as chairman and director. Removal of director is the prerogative of the shareholders and removal of chairman is something that the board can do unanimously.

However, if you look at the resolution that was passed, the board first tried to ask Vijay Mallya to resign. That is typically the moral pressure that the board puts asking and giving the opportunity to the director to resign so you don’t have to go through the legal process. Plus given that there is a right under the shareholders agreement which is probably incorporated in the articles, for a shareholder to appoint the chairman and for other shareholders to vote along, it is unlikely that the board will exercise that power and will differ to the shareholders to take this decision to avoid legal issues later.

Latha: What are the various next steps? We should of course expect Vijay Mallya to go to court and try and defend his rights probably he was given the rights to stay on as chairman in the Diageo agreement, the other part you would expect that there will be some proactive steps taken by the regulator in terms of the happenings in USL that you referred to, agreement over Whyte & Mackay, the reportage of Whyte & Mackay’s performance, you think all this will be done by the regulator?

Gupta: I do not say I think, I said I wish it should be done for the simple reason, we have very clearly moved from an era where anything or everything was allowed to happen in the company. Now it is in a transparent manner and if such things have come to the notice of public and regulator, it is right that its action is initiated. So that confidence of investing probably remains intact or it is not dwindled. My issue is very simple, it is 2 and 2 as together.

Till now nobody believes that this is wrong, when the PwC report has itself brought down that there were some things, which were not done rightly. So then it is likely that earlier things were also not done rightly.

Latha: Many more skeletons will tumble and in that case, even the auditors will be held to question, isn’t it?

Gupta: I think you have to read the last year’s auditor’s report. Auditors have just fallen short of writing that there is a fraud in the company.

If you read the last line of the audit report, you will find that they have just fallen short of writing that there is fraud.

Today with lot of responsibilities being fixed on auditors under the companies act for reporting of the fraud, it will be very interested to see what are their observations in this audit report.

Sonia: You did mention that the removal of directors is a prerogative of the shareholders. So if you go by the precedence of earlier cases, how long does it generally take for a board, which has a controlling stake to oust a director, what do you think would be the next course of action and the timeline?

Jain: The timeline broadly is about 45 days because it depends whether the notice comes from the shareholder or the board itself calls for a meeting for removal of the shareholder. Either case you will have to give notice to the concerned director that he is being removed and given the opportunity to be heard at the shareholders meeting. There are strict timelines provided for the notice period -- for example 14 days for giving notice of the requisition of the meeting etc, so typically 45 days but in between if there is a stay from any court, then of course all of that timeline doesn’t matter.

Just one thing I will add to what JN Gupta was saying. It is very important, the legal point that I am stating is all as per the law today. But this is a listed company and public policy anvil will take precedence over any of the contractual obligations and I do expect SEBI to take a more proactive role in terms of looking at the reports, there is suggestion that the reports have been submitted to the regulator and the second thing is that we will have to see the repercussions of this on the other directors, if the auditors thought that there is a fraud but didn’t declare it fully or the directors did not report the wrongdoings when they were acquired to because the 2013 act -- the new companies act -- is very stringent.

So the repercussions on directors, auditors and Diageo itself, which is a US listed company, that will get panned out. So it is very interesting that Diageo brought this out in light now.