The Bombay High Court upheld the view of a learned single judge that clauses 8.5 and 8.5.1 of the SPA cannot be said to be a contract in derivatives prohibited by Section 18A of SCRA.
The division bench of this Court comprising Hon’ble Justice K.R. Shriram and Rajesh S. Patil held that providing an option in the Share Purchase Agreement (“SPA”) of repurchasing the shares due to the contingency does not constitute as a ‘forward contract’.
Brief Facts:
The present appeal was filed under Section 37 of the Arbitration and Conciliation Act, 1996 (“the said Act”) against an order and judgment dated 27th March 2019 passed by the learned Single Judge of this Court under Section 34 of the said Act by which the learned Single judge allowed the petition filed under Section 34 and set aside the impugned Award. Before the learned single judge, Respondents had challenged an Award dated 6th June 2013 passed by the sole Arbitrator, whereby the sole Arbitrator concluded that two clauses, viz., clause 8.5 and clause 8.5.1 in the Share Purchase Agreement (“SPA”) between Edelweiss and appellants herein Percept Finserve Private Limited and Percept Limited (“Percept”) are illegal because they were forward contracts contrary to the provisions of the circular issued by SEBI under Section 16 of the Securities Contracts (Regulation) Act, 1956 (“SCRA”) and also because they are options and hence, contracts in derivatives not being traded on stock exchange and hit by Section 18A of SCRA.
The learned Single judge, by the order and judgment impugned in this appeal, reversed the findings of the learned Arbitrator by holding that clauses 8.5 and 8.5.1 of the SPA were not illegal and were perfectly legal, and there was no prohibition. The learned Single judge also held that clauses 8.5 and 8.5.1 of the SPA cannot be said to be a contract in derivatives prohibited by Section 18A of SCRA in light of the judgment of the Apex Court in MCX Stock Exchange Ltd. V/s. SEBI 2012 Scc Online Bom 397.
Contentions of the Appellant:
The learned Counsel for the Appellant submitted that clauses 8.5 and 8.5.1 is a contract in derivatives, and hence, the regulatory mechanism as postulated under SCRA and the notifications issued thereunder would lead to a conclusion that these two clauses were invalid and illegal under SCRA. It was also submitted that it had been the fundamental policy of Indian law to prohibit all contracts in derivatives except those expressly permitted under the provisions of SCRA. An option agreement in derivatives, as contained in clauses 8.5 and 8.5.1, violates the provisions of Section 18A and was prohibited.
In regard to the reliance placed on the MCX (supra), the learned Counsel submitted that it is not applicable in the present case because, in the said case the Court held that options come into existence upon the exercise thereof, however, the Court did not decide the question of the legality of buyback arrangements pursuant to put option, vis-a-vis, the provisions of Section 18A and the same was kept open as it was not the ground taken by SEBI in the show cause notice.
Contentions of the Respondent:
In light of the MCX (supra), the learned Counsel submitted that there was no question of the shareholders agreement containing the option to sell securities, falling within the purview of SCRA, or for such an option being illegal as constituting a forward contract. Clause 8.5 and 8.5.1 was not a contract for the sale or purchase of securities falling within SCRA, and thus there is no question of it being illegal under the notification issued under Section 16 of SCRA.
In light of the MCX (supra), the learned Counsel submitted that there was no question of the shareholders agreement containing the option to sell securities, falling within the purview of SCRA, or for such an option being illegal as constituting a forward contract. Clause 8.5 and 8.5.1 was not a contract for the sale or purchase of securities falling within SCRA and thus there is no question of it being illegal under the notification issued under Section 16 of SCRA.
Observations of the Court:
This Court agreed with the view expressed by the learned Single judge that the Arbitrator’s conclusion that the purchase option contained in clauses 8.5 and 8.5.1 was illegal and unenforceable, being a forward contract, is an incorrect view. It was observed by the Division bench that on the date when the SPA was entered into, there was no contract for sale or purchase of shares under clauses 8.5 and 8.5.1. A contract for the sale or purchase of shares would come into being only at a future point of time in the eventuality of Edelweiss, which was granted a such option, exercising it in future on the occurrence of a stipulated contingency.
The Court further holds that Section 18A of SCRA does not purport to invalidate any contract. It provides that notwithstanding anything contained in any other law for the time being in force, the contracts in derivative shall be legal and valid if such contracts satisfy the conditions mentioned therein. Section 18A of SCRA on its own does not make any particular contract illegal or invalid. In respect to the circular, this Court was of the view that it does not prohibit forward contract for the sale or purchase of securities because the option contained in clauses 8.5 and 8.5.1 does not come within that prohibition since it does not amount to a contract for sale or purchase of shares.
It was concluded by the bench that clauses 8.5 and 8.5.1 are not contracts for the sale or purchase of securities but merely an option that the promisee may or may not exercise, and entering into such option does not amount to making of a contract in a derivative.
The decision of the Court:
The Bombay High Court dismissed the appeal and imposed a cost of Rs. 5 lakhs on the Appellants.
Case Title: Percept Finserve Pvt Ltd & Anr. versus Edelweiss Financial Services Ltd
Coram: Hon’ble Justice K.R. Shriram and Rajesh S. Patil
Case no.: COMMERCIAL APPEAL (L) NO.284 OF 2019 IN COMMERCIAL ARBITRATION PETITION NO.220 OF 2014
Advocate for the Appellant: Mr. Aditya Pimple
Advocate for the Respondents: Mr. Karl Tamboly
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