With the Securities and Exchange Board of India (SEBI) making their stand clearer on the put/ call options in the Cairn Vedanta deal/Vulcan Engineering, and the Reserve Bank of India (RBI) indicating that they may consider such options as external commercial borrowing, has opened a can of worms and has definitely created a lot of uncertainty which could affect foreign direct investment. This article summarizes the views of the regulator and analyses some of the issues involved.

First, RBI raised concerns on viability of options and was proposing to recharacterise the same as “guarantees”. Then SEBI says no ‘option’ for public companies – Cairn Vedanta deal/Vulcan Engineering. Finally Department of Industrial Policy and Promotion (DIPP) said such ‘option’ would be treated as debt and not equity investment (both listed and unlisted), and shortly thereafter retracted.

With this increasing trend in views taken by various regulators on put/call options, the signals are somewhat unclear. In this turbulent economy, where investors are looking for stability and uniformity, the regulator should be providing a uniform view on where this issue lies so that investors can structure their investments accordingly.

The issue of put/call option came up in the Cairn Vedanta deal where SEBI directed the parties to that pre-emption rights and the put/call option be removed from the share purchase agreement dated August 15, 2010. SEBI’s view was that such arrangement was violative of Notification No. SO 184(E) dated March 1, 2000 as it was not in conformity with the requirements of spot delivery contract or a derivative contract under Section 18A of the SCRA. Prior to the above notification, the Central Government had issued a notification in 1969 which prohibited all contracts or contracts for cash or hand/special delivery. The 1969 notification was rescinded by the above 2000 notification which did not bring about any substantial changes.

SEBI’s view on put/call option arrangements was further substantiated in an interpretative letter dated May 23, 2011 issued to Vulcan Engineering Limited (“VEL”) wherein it clarified that put/call options were not valid under the SCRA as: (i) the put/call option would be exercisable at a future date and therefore, the transaction would not qualify as spot delivery contract as defined in Section 2(i) of the SCRA; and (ii) the put/call option would not qualify as a legal and valid derivative contract in terms of Section 18(A) of the SCRA as it was exclusively entered into between two parties and was not a contract traded on stock exchanges and settled on the clearing house of the stock exchange.

Another contradiction on this issue is the Government of India notification of June 27, 1961 which said that specified contracts of pre-emption or similar rights contained in the promotion or collaboration agreements or in the articles of association of limited companies, as contracts to which SCRA would not apply.

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