SEBI's Informal Guidance On SAR Scheme May Need A Relook!

SEBI's Informal Guidance On SAR Scheme May Need A Relook!By Varun Sriram, Partner, J. Sagar Associates

The Securities Exchange Board of India (SEBI) has recently issued an informal guidance to the effect that SEBI (Share Based Employee Benefit) Regulations, 2014 (SBEB Regulations) would not apply to cases where instead of shares, “cash settled stock appreciation rights” (SAR) – basically, phantom stock – are granted to employees of listed companies.

The view appears to be founded on the premise that cash settled SAR do not involve ‘dealing in or subscribing to or purchasing securities of the company, directly or indirectly’, which is one of the prerequisites for applicability of the regulations.

The SBEB Regulations were made with the purpose of regulating all schemes by listed companies for the benefit of their employees involving dealing in shares, directly or indirectly. The object of the SBEB Regulations is to facilitate smooth operation of such schemes while preventing any possible manipulation and matters connected therewith or incidental thereto.

Regulation 1(3) of the SBEB Regulations expressly states that the provisions shall apply to “stock appreciation rights schemes”. Stock appreciation right scheme as per the regulations mean a scheme under which a company grants SAR to employees and SAR being a right given to employee entitling him to receive appreciation for a specified number of shares of the company where the settlement of such appreciation may be made by way of cash payment or shares of the company. The SBEB Regulations contains various provisions dealing with SARs including conferring protections to grantees. Part C of Chapter III specifically deals with administration of SARs. The intention of the SBEB Regulations to cover SARs can simply not be lightly misread.

The ambiguity if at all appears to be inferred from the requirement under Regulation 1(4) that the provisions of the regulations apply only when a scheme involves ‘dealing in or subscribing to or purchasing securities of the company, directly or indirectly’. It is obvious that cash settled SARs would never involve directly subscribing to or purchasing securities of the company. But when Regulation 1(3) explicitly make the SBEB Regulations applicable to all SAR schemes, whether settled in cash or in shares, it would mean that cash settled stock appreciation rights would be an indirect benefit sought to be covered by the regulations.

Since, it is apparent that the intention of the SBEB Regulations is not to exclude SARs, including cash settled, it would follow that the phrase ‘dealing in securities, directly or indirectly’ would mean any schemes that derive value having reference to value of shares. The term “securities” is defined under the Securities Contract (Regulation) Act, 1956, which definition is generally adopted across all SEBI Regulations. The said term includes within its ambit derivatives. Derivatives in simple terminology are securities which derive their value from another source.

In any case, the object of the SBEB Regulations is the smooth operation of schemes preventing any possible manipulation and matters connected therewith or incidental thereto – the implications of this object for SARs are no different from implications for direct acquisition of shares. If SEBI’s intention truly is to make life easier for such schemes and not make the SBEB Regulations applicable to cash settled SARs, the right course of action would be to amend these regulations formally. However, the question remains if SEBI would want to do that considering it is equally important to regulate derivative schemes as well.