Accepting representations from companies, the government on Tuesday said preference shares issued to foreign companies would not be treated as equity capital for three months ending July 31, 2007. On April 30, the government had issued a new guideline that treated convertible preference shares at par with equity capital.
However, the window of three months is subject to the condition that these companies have taken “verifiable and effective steps” for the issue of such convertible preference shares and they need to complete the transaction before July 31.
The April 30 guideline was issued to curb the misuse of convertible preference shares for circumventing sectoral foreign investment caps. “Foreign investment coming as full convertible preference shares would be treated at part of share capital. This would be included in calculating foreign equity for purposes sectoral caps on foreign equity, where caps have been prescribed,” the guideline stated.
The new rule put a spanner in the works for companies that were in advanced negotiations for issuing such instruments. The government received several representations that the revision of the guideline had adversely affected many business plans. After examining the plea, the government has allowed companies that have taken verifiable and effective steps prior to April 30, 2007, a three-month window to complete their issues.
Tuesday’s clarification specifies that these verifiable steps would be actions that have footprints in the public domain. Effective steps would be actions that go beyond the simple intention to act and should be such that they bind the parties conclusively. This, in effect, means that the company has taken board approval or has approached the government for the issue of preference shares.
Clubbing of preference shares with equity was done in the wake of ongoing controversies around companies, particularly in the insurance and telecom sectors, that had issued such capital much beyond the sectoral foreign investment cap.
However, the status of partly, optionally or non-convertible preference shares was not changed and they will be treated as debt and shall have to conform to rules on external commercial borrowings.