MUMBAI: The Securities and Exchange Board of India (Sebi) will on Thursday roll out a cap on royalty payments at 2% of net sales. Any other additional payment of royalties will require shareholder approval. Starting July, listed entities will need to follow this particular recommendation of the Kotak Committee.
The regulator had in March deferred the proposal owing to a push back from the finance ministry and the industry.
Royalty payments under any name such as brand fees or technical know-how fees or other service-related fees will come under this rule.
Royalty payments to promoters had been exorbitant in the past.
For instance, promoters of Havells India Ltd were given royalty till April 2016 when the company was bearing the cost of advertising and brand building. Similarly, the Singh brothers (erstwhile promoters of Fortis Healthcare Limited) announced that the over ₹500 crore recoverable from them would be adjusted against royalty for the Fortis brand.
Sebi is not going hammer and tongs regarding its plans to cap royalty payments. It realizes these are justified payments, and just wants them to pass the muster of a shareholder vote.
In the past two years, royalty payments have tempered down.
In 2017-18, 27 multinational companies (MNCs) paid an aggregate ₹6,737 crore in royalties, more than half of which was accounted by Maruti Suzuki India Ltd at ₹3,818 crore, or 25.8% of profits before tax, proxy advisory firm Institutional Investor Advisory Services India Ltd (IiAS) said in a report dated 27 March.
These royalty payment accounts for 16% of these 27 MNCs’ pre-tax pre-royalty profits and almost 27% of their aggregate ₹25,040 core profit after tax.
Maruti Suzuki India Ltd, GE T&D India Ltd, 3M India Ltd, and Johnson Control-Hitachi Air Condition India Ltd have paid more than 20% of their pre-tax, pre- royalty profits as royalty to their respective parent companies. Fourteen of the 27 MNCs (whose recent financial statements were available) paid over 2% of net sales as royalty to their parent companies, the report added.
Even though royalty payments were related-party transactions, they escaped shareholder approval since these did not exceed 10% of revenues or net worth, and companies maintained that royalty payments were in the ordinary course of business and on arm’s length terms. Considering the high payout, the Kotak committee recommended shareholder approval for any royalty payout exceeding 5%. Sebi brought it down to 2%.
Barring capping royalty payments, Sebi is likely to focus on certain other key areas.
Widening definition of encumbrance
The Sebi board will widen the definition of encumbrance and heighten disclosures on encumbered shares. Under the current takeover code, encumbrance includes a pledge of shares, lien or any such transaction. This will be widened to include any restrictions on free and marketable shares of promoters, which affects tradability of shares. It will also include negative lien and non-disposable undertakings. The idea is to cover all innovative structures and methods used by promoters. More than 20% of promoter share encumbered would need to have reasons.
Relaxing buyback for NBFCs parents
Companies, which have non-banking finance companies (NBFCs), including housing finance companies (HFCs), will need to have a post buyback debt-to-equity ratio of 5:1. For other companies it will be set at 2:1.
Differential voting rights
Differential voting right (DVR) shares, which offer higher dividends but no voting rights, are set to make a comeback for listed companies after nine years. This will help new-age companies to block hostile takeovers. Many new-age companies take investments from financial investors and this can make them susceptible to hostile takeovers. To avoid this, Sebi will allow these companies to issues DVR shares and financial investors can then subscribe to shares with higher payouts but lower political rights. Founders can in turn retain shares with higher voting or political rights. This is based on a consultation paper issued in March.