2023 (2) TMI 379 - HC - SEBI

Arbitration award - Share Purchase Agreement (SPA) - Legality or enforceability of the transaction of repurchase contained in the SPA - rejection of Edelweiss s claim on the ground that the transaction of share purchase option was illegal and/or unenforceable being in breach of SCRA (Securities Contracts (Regulation) Act, 1956) - contracts in derivatives not being traded on stock exchange and hit by Section 18A of SCRA or not - HELD THAT - We totally agree 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. The judgment in MCX 2013 (9) TMI 914 - HIGH COURT OF BOMBAY squarely deals with a purchase option, such as the present, where the purchaser of securities requires the vendor to repurchase on the occurrence of a contingency - As held in MCX, a contract giving an option to a purchaser to require repurchase of securities by his vendor on some contingency occurring would only mean that there was no present obligation at all but the obligation arose by reason of some contingency occurring. 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 sale or purchase of shares would come into being only at a future point of time in the eventuality of Edelweiss, which was granted such option, exercising it in future on the occurrence of a stipulated contingency. Section 18A of SCRA does not purport to invalidate any contract. It starts with a non-obstante clause, i.e., overriding effect over any other law for the time being in force. 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. What the buyer of an option buys is his right to exercise the option, often with a premium; his counter-party, who gives him such option, receives the option premium and in consideration thereof, is obliged to buy or sell the underlying asset against the option exercised by the buyer - What the law prohibits under Section 18A read with Section 16 read with the SEBI circular of 1st March 2000 is not entering into a call or a put option for sale but as rightly held by the learned Single Judge what it prohibits is trading or dealing in such option treating it as a security - Clauses 8.5 and 8.5.1 are not contract for sale or purchase of securities, but merely an option which the promisee may or may not exercise and entering into such option does not amount to making of a contract in a derivative. Such a contract was never prohibited. Appeal dismissed with costs, which we hereby fixed at Rs.5 lakhs. The cost to be paid by way of cheque drawn in favour of advocate on record for respondent within four weeks from today.

Summary

Issues Involved:
1. Legality and enforceability of clauses 8.5 and 8.5.1 of the Share Purchase Agreement (SPA).
2. Whether the clauses constituted a forward contract prohibited under Section 16 of the Securities Contracts (Regulation) Act, 1956 (SCRA).
3. Whether the clauses were contracts in derivatives not traded on a recognized stock exchange and thus illegal under Section 18A of SCRA.

Issue-Wise Detailed Analysis:

1. Legality and Enforceability of Clauses 8.5 and 8.5.1 of the SPA:
The appellants challenged the judgment of the learned Single Judge who reversed the Arbitral Tribunal's decision that clauses 8.5 and 8.5.1 were illegal. The Arbitral Tribunal had concluded that these clauses were unenforceable as they constituted forward contracts and options in derivatives that were not traded on a recognized stock exchange. The learned Single Judge, however, held that these clauses were legal and did not constitute a forward contract or an illegal derivative under SCRA. The Single Judge relied on the judgment in MCX Stock Exchange Ltd. V/s. SEBI, which clarified that a contract for sale or purchase of shares would only come into existence upon the exercise of the option by Edelweiss, thus not constituting a forward contract.

2. Whether the Clauses Constituted a Forward Contract Prohibited Under Section 16 of SCRA:
The Arbitral Tribunal initially held that clauses 8.5 and 8.5.1 were forward contracts prohibited under Section 16 of SCRA and SEBI's circular dated 1st March 2000. However, the learned Single Judge disagreed, stating that the clauses did not constitute a forward contract as there was no present obligation to sell or purchase shares. The contract would only come into being if Edelweiss exercised its option upon the failure of conditions subsequent attributable to the appellants. This interpretation was supported by the MCX judgment, which clarified that an option to require repurchase of shares upon a contingency does not constitute a forward contract.

3. Whether the Clauses Were Contracts in Derivatives Not Traded on a Recognized Stock Exchange and Thus Illegal Under Section 18A of SCRA:
The Arbitral Tribunal also held that clauses 8.5 and 8.5.1 were illegal as they constituted contracts in derivatives not traded on a recognized stock exchange, violating Section 18A of SCRA. The learned Single Judge reversed this finding, stating that the clauses did not amount to a contract in derivatives. Section 18A of SCRA, which deals with the legality of contracts in derivatives, does not invalidate contracts that are not traded on a recognized stock exchange unless they are treated as securities for trading. The learned Single Judge emphasized that the clauses were merely options that may or may not be exercised by Edelweiss and did not constitute trading in derivatives.

Conclusion:
The High Court upheld the learned Single Judge's decision, agreeing that the Arbitral Tribunal's conclusion regarding the illegality and unenforceability of clauses 8.5 and 8.5.1 was incorrect. The clauses did not constitute a forward contract or an illegal derivative under SCRA. The appeal was dismissed with costs fixed at Rs.5 lakhs, to be paid by the appellants to the respondent's advocate within four weeks.