The Bombay High Court has recently rejected the objections to the enforcement of a foreign award on the ground of the award being in violation of the public policy of India, given it was allegedly contrary to provisions of Foreign Exchange Management Act, 1999 ("FEMA") and the Securities Contracts (Regulation) Act, 1956 ("SCRA"). This comes in the judgment in Banyan Tree Growth Capital LLC v. Axiom Cordages Ltd.,1 which was pronounced on video conferencing due to Covid-19 lockdown. Under the award, damages were awarded corresponding to the fair market value and the put option was held to be valid and legal under Indian law.
The Petitioner, Banyan Tree Growth Capital LLC ("Banyan Tree"), is a company incorporated in Mauritius, investing in mid-market companies. The Respondents are Axiom Cordages Ltd. ("Axiom"), Responsive Industries Ltd. ("Responsive") and Wellknown Business Ventures LLP ("Wellknown"), all of which are incorporated in India. Responsive and Wellknown are promoter-shareholders of Axiom.
In 2008, Banyan Tree, Axiom, Responsive and Wellknown entered into a Share Subscription Agreement ("SSA"), under which Banyan Tree made an initial investment of USD 50 million in return for equity shares and convertible debentures in Axiom. The SSA prescribed a time-bound exit for Banyan Tree, to be achieved through one of the following modes:
- Conducting an IPO of Axiom;
- Merger of Axiom into Responsive, allowing Banyan Tree to prescribe to shares of Responsive, a publicly listed company;
- If options (i) and (ii) were not available, Responsive and Wellknown were required to buy Banyan Tree's shareholding in Axiom, as provided in the SSA as well as the put option deed also executed by the parties on 12 September 2008 ("Put Option Deed"). The put option price was defined as target value of the put securities as on the put settlement date. Target value referred to a value that resulted in an annual yield equal to 15% per annum in USD terms on the total investment amount from the issue date to the date of exercise of the put option.
On 21 August 2015, Banyan Tree exercised its right under the Put Option Deed and issued the put option notice, requiring Wellknown and Responsive to buy out Banyan Tree's shareholding in Axiom ("Put Securities"). Upon non-receipt of a response, Banyan Tree set out the estimated fair market value ("FMV") of the Put Securities, which was lower than the FMV calculations under the Put Option Deed. The Respondents denied their liability to purchase the Put Securities and stated that the Put Option Deed was void ab initio. The dispute was referred to arbitration at the Singapore International Arbitration Centre ("SIAC").
The issues before the arbitral tribunal involved considering the legality of the Put Option Deed under Indian law, including the FEMA and the SCRA, as well as the secondary legislations thereunder. As per the award rendered by the arbitral tribunal ("Award"), the Put Option Deed was held to be a valid and legal contract under Indian law. The damages awarded to Banyan Tree corresponded to the FMV valuation of the Put Securities which remained uncontested by the Respondents.
Banyan Tree filed a petition under Sections 47-49 of the Arbitration and Conciliation Act, 1996 ("Arbitration Act") before the Bombay High Court ("Court"), seeking enforcement of the Award as a decree. The Respondents opposed on the ground that the Award was against the public policy of India, being in contravention of the fundamental policy of Indian law within the meaning of Section 48(2) of the Arbitration Act. The Respondents for the first time raised an objection that the Put Option Deed was inadequately stamped, amounting to a void contract.
The Court held the Award to be in consonance with the public policy and the fundamental policy of Indian law under Section 48(2) of the Arbitration Act. The Court's reasoning is discussed hereunder:
i. Stamping of the Put Option Deed
The Respondents contended that the Put Option Deed, stamped with a value of INR 300, was required to be stamped under Article 5 (c) (ii) (agreement related to purchase of shares etc.) or Article 5 (h) (A) (iv) (agreement creating obligations etc., not covered under any other article), whichever was higher, under Schedule I of the Maharashtra Stamp Act, 1958. The Respondents stated that since the Maharashtra Stamp Act was inapplicable outside the state of Maharashtra, the arbitral tribunal in Singapore had no powers to impound the Put Option Deed, and therefore, this issue had not been raised in the arbitral proceedings.
The Court termed the Respondents' contentions as an afterthought and observed that the Put Option Deed was accepted in evidence before the arbitral tribunal, and such admission of the document precluded the Respondents from challenging the document subsequently for insufficient stamping, under Section 35 of the Maharashtra Stamp Act. Moreover, the Court also observed that the obligation of adequately stamping the Put Option Deed was upon Wellknown and Responsive, who, for a period of ten years, took the position that the Put Option Deed was adequately stamped. The Court held that the Respondents were now estopped in law to challenge their own actions and conduct in contending that the document was not adequately stamped. Even on merits, the Court noted that the Respondents had admitted that the Put Option Deed was adequately stamped under the provisions of Article 5(h)(B) of the Maharashtra Stamp Act, by failing to deny the same in their rejoinder affidavit.
The Court distinguished the judgments of the Supreme Court in SMS Tea Estates Pvt. Ltd v. Chandmari Tea Co. Pvt. Ltd2 and Garware Wall Ropes Ltd. v. Coastal Marine Constructions and Engineering Ltd.,3 which are in the context of Section 11 of the Arbitration Act. While enforcing a foreign award under Sections 47 and 48 of the Arbitration Act, the Court is precluded from adjudicating any factual dispute. The Court noted that accepting the contentions of the Respondents, especially after the parties admitted the document in the arbitral proceedings, would be tantamount to reopening the trial on factual issues, which was beyond the jurisdiction of the Court.
ii. Legality of the Put Option Deed under the provisions of the SCRA
The Respondents contended that the Put Option Deed is a contract in securities/derivatives and /or a forward contract, governed by the SEBI notification dated 1 March 2000 ("2000 SEBI Notification"), which, inter alia prohibited forward contracts and required contracts for the sale or purchase of securities to qualify as spot delivery contracts. While the SEBI notification dated 3 October 2013 ("2013 SEBI Notification") provided statutory recognition to shareholders contracts for purchase or sale of securities containing a put option, the Respondents submitted that the same was applicable prospectively and the Put Option Deed was invalidated by Section 18A of the SCRA.
Relying on Edelweiss Financial Services Ltd. v. Percept Finserve Pvt. Ltd.,4 the Court reiterated that a contract containing a put option cannot be termed as a contract in derivatives and held to be illegal under Section 18A of the SCRA. Since the option in favour of Banyan Tree was a buyback arrangement, it could neither be dealt nor traded on the stock exchange, and would not attract the SCRA. Upon examining the provisions of the Put Option Deed, the Court concluded that the intention of the parties to the SSA and the Put Option Deed was to provide an option to exit to the investor, and not to indulge into any speculation in the Put Securities, which is the primary factor to consider the applicability of the provisions of the SCRA. Such arrangement cannot be termed as a speculative trade in securities, hit by the provisions of the SCRA.
In any case, the Court also held that the contract for the sale or purchase of securities came into existence in 2015 when Banyan Tree exercised its option under the Put Option Deed.5 Upon tracing the statutory regime of the SCRA to determine the applicability of the relevant notification, the Court recognised that the Put Option Deed was governed by the 2013 SEBI Notification which provided statutory recognition to shareholders contracts for purchase or sale of securities, with a put option, even if entered prior to the issuance of the 2013 SEBI Notification. Therefore, the Court concluded that the Put Option Deed was permissible under the SCRA.
iii. Legality of the Put Option Deed under the FEMA
The Respondents submitted that the Put Option Deed was in contravention of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 ("FEMA Regulations"), more particularly Regulation 5(1), which permitted optionality clauses only from 2013 onwards, and Regulation 10, which mandated valuation of unlisted shares as per the fair market value. Consequently, the Put Option Deed which provided a guaranteed assured return on shares was argued to be in contravention of the law.
The Court held that the Put Option Deed could only be exercised under certain conditions and did not guarantee assured returns to Banyan Tree. The Put Option Deed also provided that if the put option price exceeded the FMV valuation, the excess amount was not to be remitted to Banyan Tree, but was to be repatriated to a nominee's account in India, which is not prohibited under the FEMA Regulations.6
The Court agreed with the ruling of the arbitral tribunal that the provisions of the FEMA and the regulations thereunder do not deal with the legality of contracts and are concerned only with the manner in which contracts are to be performed with respect to foreign exchange. Therefore, in accordance with the decision of the Supreme Court in Vijay Karia v. Prysmian Cavi E Sistemi SRL & Ors,7 the Court held that the enforcement of the Award cannot be refused on the ground of violation of FEMA Regulations.
iv. Award in consonance with the fundamental policy of Indian law
The contentions of the Respondents in this regard hinged on the alleged illegality of the Award under the SCRA, the FEMA and the notifications and regulations thereunder.
The Court relied on the decision of the Supreme Court in Shri Lal Mahal Ltd. v. Progetto Grano SPA8 to interpret 'public policy' and its applicability in enforcement of a foreign award, as well as the rationale espoused in the Vijay Karia case to reject challenge to an award argued to be contrary to the FEMA. The Court held that the objections to the enforcement of the Award did not fall within the ambit of fundamental policy of Indian law, the interest of India or justice or morality.
Resultantly, the Court declared the Award to be binding under Section 46 of the Arbitration Act and enforceable as a decree under Part II of the Arbitration Act.
On the same contentions, the Respondents had objected to the enforcement of a separate award rendered by the SIAC arbitral tribunal with regards to an escrow agreement between the parties. The said award was also held to be binding and enforceable as a decree under Part II of the Arbitration Act.
This judgment has discussed in detail the law in relation to the legality of put options under the SCRA and the FEMA, issue of inadequate stamping and scope of fundamental policy of Indian law. Indian courts have time and again recognised the concept of put options, which is one of the most well-known exit mechanisms for foreign investors. The courts have granted interim reliefs in disputes involving exercise of put options and not interfered with the award granting reliefs based on put options.
On the issue of inadequate stamping, the Court interestingly distinguished the position laid down by the Supreme Court that an arbitration clause contained in an agreement, which is inadequately stamped, cannot be acted upon. The Court relied upon Sections 47 and 48 of the Arbitration Act to say that it was precluded from adjudicating any factual dispute, as the issue of inadequate stamping was never raised before the arbitral tribunal, which was seated in Singapore.
The concept of fundamental policy of Indian law has been interpreted to mean compliance of statutes and judicial precedence, need for judicial approach, natural justice compliance and standards of reasonableness. Even if the law laid down in SMS Tea Estates and Garware Wall Ropes Ltd. is made applicable to the present case, it would still be difficult to refuse enforcement of the foreign award on the ground of inadequate stamping as the said ground is technical in nature, which can be easily cured and rectified and therefore, will not fall under the scope of fundamental policy of Indian law.
1. Commercial Arbitration Petition No. 476 of 2019, decided on 30 April 2020.
2. (2011) 14 SCC 66.
3. (2019) 9 SCC 209.
4. 2019 SCC OnLine Bom 732.
5. The Court relied on MCX Stock Exchange Ltd v. Securities & Exchange Board of India & Ors. (2012 SCC OnLine Bom 397), which held that a contract for the sale of securities falling within the SCRA would come into existence only pursuant to exercise of the option.
6. In IDBI Trusteeship Services Ltd. v. Hubtown Ltd. (2018 SCC OnLine SC 2795), the Supreme Court held that the foreign investor was not required to obtain permission from the Reserve Bank of India in order to repatriate the funds.
7. 2020 SCC OnLine SC 177.
8. (2014)2 SCC 433.
Originally published May 21, 2020
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