Introduction
The legal framework for mergers and acquisitions is a vital component of India’s competitive and business environment. The CCI has developed a merger control process to ensure that corporate mergers do not adversely impact competition in the marketplace. At the heart of this supervisory apparatus lies the paradigm of “control”, a term that functions as the operative threshold for regulatory scrutiny for combination filings under Section 5 and 6 of the Competition Act.
Be that as it may, the meaning is control is far from settled. What at the outset appeared to be a plain inquiry into majority shareholding has now advanced into a deeply layered and often unpredictable analysis of governance mechanism, indirect or potential influence and even contractual rights.
This broadening ambit reflects the CCI’s knowledge of progressively evolved ways corporate actors may formulate transaction structures. Yet, unavailability of clear statutory boundaries has also created lack of clarity, making it challenging for parties to assess when notification is essential. Given that India is experiencing rapid economic development with a significant amount of cross-border investment and resourcing of companies, it is critical to define the standards of control accurately.
Statutory Basis of Control under The Competition Act
Section 5 and the Circular Definition
The definition of a merger in Section 5 of the Competition Act is an intentional and flexible one that allows the CCI to assess the variety of ways in which one company can control another. While this means that there are multiple ways in which control may be enacted by a business, the absence of clearly defined indicators creates complications in determining control both in written law and application of written laws.
Interpretive Ambiguities
Despite the existing statutory language, there remain several outstanding questions. For example:
- Is control established by the actual exercise of influence, or does the ability to do so suffice?
- (b) Do veto rights confer control?
- Do minority shareholders have controlling authority?
- Should financial dependence (or) contractual leverage be considered additional factors?
Absent specific and definitive administrative guidance, parties must rely on the continuously evolving case law with all its inconsistencies from one matter (decision) to another.
Evolution of the Control Test In India
Early Understanding: Equity-Based Control
During the early stages after merger regulatory enforcement, control was viewed as equity ownership and voting privileges, or the ability to influence a company’s board of directors. At that time, the conventional understanding was that only a person or entity with a majority ownership interest, or at a minimum, a sufficiently large block of shares could gain control. This was consistent with the traditional and historical principles of corporate law upon which merger regulations were established, where control was only recognized through the rights of majority shareholders and the votes cast in favour of electing directors or other executive officers of a corporation.
Jet–Etihad: Contractual Rights as Control
According to the CCI’s analysis of Etihad’s purchase of a 24% share in Jet Airways, the regulatory framework evolved considerably in this instance. In this circumstance, while technically viewed as a minority position, the CCI determined that Etihad exercised control due to its governance rights as expressed in the investment agreement. These controls included affirmative voting rights, blocking rights on significant business decisions, appointing rights to the board, and determining the strategy on international routes.
As a result of this ruling, for the first time contractual rights were recognized as being capable of giving rise to the existence of joint control over an enterprise. This ruling represented a significant movement away from purely quantitative measures of ownership and onto a more comprehensive qualitative analysis of governance rights associated with ownership of an enterprise.
Century Tokyo Leasing: Introduction of Material Influence
Another developing area was that of material influence. The CCI recognized through this report that material influence exists where there is neither majority ownership nor veto powers. Thus, it follows that any agreement or arrangement permitting a party to influence the behaviour of an enterprise could result in that party having a degree of material influence over the decision-making capabilities of the enterprise that may qualify as control of some degree.
The traditional notion of control was greatly expanded by Indian law in general with the change in the threshold to an extreme low. Control could now be demonstrated in situations that were historically understood to only indicate some level of material influence; however, under Indian law, even a minority commercial relationship would indicate material influence under this definition. This new definition helps to prevent the use of loopholes by acquiring companies who may otherwise avoid regulatory scrutiny by intentionally structuring their shareholding to be less than majority ownership. The consequences of this broad interpretation of the concept of control in relation to minority owner shareholding have been met with criticism from a business perspective due to their ambiguity.
PVR–INOX: Inconsistency in Application
The merger of PVR and INOX was the largest merger in terms of the size of the cinema chain in India and caused an increase in market concentration in India to an unprecedented level. However, despite the clear dominance that the merged entity now controls over its distributors and exhibitors, the CCI did not consider the issue of control to be problematic within a governance framework. Therefore, the CCI did not require the merged entity to have any structural remedies for an issue of potential control.
While the CCI’s decision to not take action could be justified on the basis of a market-based analysis based on abuse or harm, it also exposes an inconsistency in its application of the control test. In this case, the CCI applied a very broad interpretation of control with regards to minority shareholding, yet did not take action on this matter of structural market consolidation. Some observers argue that the inaction from the CCI also leads to further uncertainty regarding the parameters of the control test.
Conceptual Dimensions of Control
Equity Control
Equity control represents the clearest form of influence: majority shareholding and voting power. A shareholder can control a company even when they do not own the majority of the voting shares. A shareholder with voting power, but less than a majority of the votes, may be able to influence board decisions through various means, such as board nomination rights or observation roles for nominees.
Board or Voting Control
By having access to the board of directors and the power to vote as part of a group, these shareholders can gain strategic advantages over their competitors. Nevertheless, the potential for a shareholder with voting power to exercise such influence is high.
Affirmative Rights and Contractual Control
It is important to note that while affirmative voting rights or management rights established in shareholder agreements may grant shareholders voting authority over certain aspects of a company, they do not necessarily allow minority shareholders to control corporate strategy. For example, some minority shareholders may have affirmative rights related to capital expenditures and corporate strategies but do not have any casting votes. Accordingly, a shareholder with full affirmative rights related to capital expenditures and a casting vote may actually create additional opportunities for controlling corporate strategies than a shareholder who only has a casting vote with respect to capital expenditures and/or corporate strategies.
Most often, questions arise as to whether minority shareholders actually exert sufficient influence to control corporate strategy through the affirmative voting rights established by their shareholders’ agreements. This has proven to be a difficult legal challenge for the CCI, as demonstrated by its inconsistent application of law.
Material Influence
Material influence represents the broadest type of control and can be exercised even when not apparent. It encompasses, for example, company dependence on your business, company’s reputation or access to key confidential information. The broad definition allows CCI to identify subtle forms of material influence but creates significant ambiguity among businesses operating within an industry.
Practical Consequences for M&A Transactions
Over-Notification
Here is what we observe as the result of companies being unsure of what constitutes borderline transactions: An increase in the frequency of companies notifying CCI of potentially borderline transactions, either out of concern about being penalized for gun-jumping or simply to be more cautious when moving forward. The result is an unnecessary burden placed on both the companies you work with and the CCI in terms of compliance, resource allocation, and slowing down what might otherwise be a benign transaction.
Transactional Frictions
Another challenge posed by the ambiguity surrounding the regulatory definition of control is the friction that may arise during a transaction. For example, lawyers may need to review standard terms of contracts to determine the regulatory implications of those terms, thus lengthening the negotiation period and increasing transaction costs. The increased friction in the deal-making process may represent an impediment to entering the Indian market for both smaller companies and start-ups.
Investor Apprehension
Private Equity, Venture Capital, and Foreign Strategic Investors frequently require specific protective governance rights. Under the present conditions, these rights may be interpreted as conferring control over the company and therefore may discourage investment or create complications when structuring contracts. Consequently, Regulatory Uncertainty is an important consideration for these investors when evaluating potential investment opportunities.
Comparative Insights
European Union: Structured and Predictable
The European Union has the same general structure used to determine what constitutes “decisive influence” as the other member states; however, it has developed an extensive level of detail for guidance through its Consolidated Jurisdictional Notices issued by the European Commission. The structured format of these notices promotes an overarching consistency in interpretation and enables the self-assessment of control to be done with confidence. The absence of similar level-specific documentation in India results in much more significant uncertainty.
United States: Effects-Based Approach
On the other hand, in the United States, there is an emphasis placed on whether the competition will be harmed by the merger rather than on governance rights alone (i.e., who owns what). Generally speaking, a minority acquisition will not be investigated unless there is a finding of anticompetitive effects; therefore, the effects-based model differs significantly from the formalistic analysis of governance in India.
India’s Hybrid Model
India is a hybrid of both the definitions from the European Union and the effects-based rationale of the United States. In practice, however, the hybrid model lacks clarity and coherence. As such, without a clear set of guidelines or a common analytical method for utilizing the hybrid model, it is very difficult for participants in the market to assess the level at which they can reasonably rely on it.
Policy and Economic Considerations
Regulatory Intent
The Competition Commission of India (CCI) has a broad definition of what constitutes control, which indicates that it intends to protect the competitive nature of the economy by preventing such anticompetitive mergers. This is particularly true for those markets plagued by complex or multi-layered ownership structures. The ability to review and scrutinize minority transactions for anticompetitive potential is also essential to prevent the buildup of hidden economic power.
Economic Trade-Offs
However, such an expansive definition will create potentially disincentives for investment, place undue burdens on regulatory resources, and create delays in the legitimate corporate restructuring of businesses. A competitive economy must be overseen effectively and provide investors with a degree of certainty to promote confidence in the market, so India must establish a balance to encourage both in order to maintain investor confidence and maximize efficiency.
Recommendations for Reform
Statutory Clarification
It is critical to clarify statutory definitions with respect to the different types of control – sole, joint, negative and material. The use of clear statutory definitions will remove the ambiguity that exists around comparative interpretation of control under the Act and align India with global norms.
CCI Guidance Documents
The CCI should provide extensive and detailed interpretive guidance with respect to which rights constitute “control”, which do not, and how to evaluate the impact of the various factors considered in determining whether or not to block a merger. The issuance of these types of guidance documents would be consistent with EU practice and would provide a large degree of predictability to companies operating in India.
Re-Examining Material Influence
The current material influence standard should be reviewed and redefined. Material influence must be real and quantifiable and should be linked to the ability of a business to impact on competition, not merely theoretical. By narrowing the scope of the definition, businesses will have greater certainty with respect to compliance requirements and the CCI will maintain regulatory flexibility.
Conclusion
The control test in India has been developed to achieve the goal of preventing anti-competitive consolidation through covert or indirect methods of exercising control over competitors. To achieve this goal, therefore, the law has been expanded to incorporate scenarios that were not previously considered as part of the scope of the control test. This expansion of the scope of the control test has introduced a level of unpredictability and uncertainty regarding regulatory compliance and the risk profile of various business combinations.
The fundamental challenge is a dichotomy between flexibility and predictability. If India wants to create an attractive environment for M&As while maintaining a competitively healthy marketplace, there must be an avenue available for obtaining clarity—not only through the enactment of new laws but also through the creation of a standardised process for obtaining regulatory guidance. Ultimately, the control test should be a balanced approach that captures real-world commercial influence over how corporations behave and provides them with a clear understanding of what they need to do to comply with rules and regulations.
FAQs
1. What does “control” mean under Indian competition law?
Section 5 of the Competition Act defines “control” as being able to exert a decisive influence on the management or operations of an enterprise. Control can be achieved through a combination of mechanisms including via shareholding, voting rights, contractual arrangements, etc., all of which will affect strategic decision-making.
2. Can a minority shareholder be considered to have control?
Yes. An investor who is a minority shareholder may have control if they hold certain rights that allow for an influence over certain major strategic/commercial’s decisions (for example ‘veto’ rights, representation on the board, etc.) even if they do not hold majority shares.
3. What is “material influence,” and why is it controversial?
Material influence is the most flexible category of control recognised by the CCI. Under the definition of material influence, it is possible to obtain direct or indirect control over commercial policy. However, as flexibility of this definition exists, the threshold for determining material influence is not clear.
4. Why do companies frequently over-notify transactions to the CCI?
As a result of the ambiguity of what constitutes control, many companies notify borderline control cases as a precaution to minimise their exposure to penalties due to gun-jumping violations. Regulatory burdens are increased by this practice and it results in delays in implementing a merger.
5. How does India’s control test differ from international approaches?
The EU provides structured guidance to ensure that what it considers a decisive influence is consistent and predictable; the US focuses primarily on the potential competitive effects of an investment or transaction and less on governance rights. India incorporates elements of both systems, however, the absence of detailed interpretive guidance has resulted in inconsistent application of the concept of control.
About Author
Anushree Vijay Tawani is a law student at BMS College of Law, Bangalore, with a focused interest in Intellectual Property Rights and Corporate Law. She is committed to developing her expertise through rigorous research and writing, aiming to contribute to the evolving discourse in these fields.
References
https://journals.sagepub.com/doi/10.1177/0003603X251346148
https://nishithdesai.com/fileadmin/user_upload/Html/Hotline/Article_Sep1225-M.html