Sebi's move to relax threshold for royalty payments a relief for India Inc

New 5% threshold set by market regulator is unlikely to create discomfort for listed firms

The Securities and Exchange Board of India’s (Sebi’s) move to relax the threshold for royalty payments from 2 per cent to 5 per cent has come as a big relief for India Inc.

An analysis of the royalty payments made by listed firms in 2017-18 (2018-19 wherever the data is available) shows almost all companies are below the new 5-per cent threshold.

Under the new rules, any listed company has to obtain approval of a ‘majority of minority’ shareholders for making payments exceeding 5 per cent of the annual consolidated turnover to a related party, with respect to brand usage or royalty. Most companies were fretting over Sebi’s earlier proposal to set the threshold at 2 per cent, as they feared minority shareholders would block such payments, and this would interfere with their business.

As a result, the move had seen widespread opposition, forcing a rethink and leading to deferment in implementation. The earlier proposal of 2 per cent, which was to come into effect from April 1, would have impacted 10 entities, including marquee multinational companies (MNCs) such as Maruti Suzuki, Colgate-Palmolive, and Hindustan Unilever (HUL).

The royalty paid by both Maruti Suzuki and Colgate-Palmolive is just below the 5-per cent mark, while for HUL, it is 2.8 per cent. Excluding metals and mining companies, the highest royalty — as a percentage of sales — was paid by Page Industries at 5 per cent.

Industry experts say companies would ensure their royalty payments don’t exceed 5 per cent to escape higher scrutiny from minority shareholders. The 2-per cent threshold would have been difficult to evade, they add.

Sebi Chairman Ajay Tyagi, when questioned the rationale about resetting the threshold at 5 per cent when it will barely impact any company, said, “As of now there is no restriction. We thought the 5 per cent is something we could try.”

Sebi’s corporate governance panel led by Uday Kotak had prescribed the 5-per cent threshold. Tyagi said Sebi wanted to go with the Kotak panel recommendation. However, a finance ministry official had the regulator enact stricter rules.

Following widespread criticism from the industry, Sebi last week said it was setting the threshold at the earlier envisaged level of 5 per cent. A board meeting agenda note released by Sebi earlier this year had highlighted some of the concerns raised by listed companies.

“There could arise a situation where the minority shareholders could disapprove the royalty, which would be a serious impediment in the flow of technology and would hurt a company’s competitiveness,” the note said.

“Since the aforesaid amendment is only applicable for listed companies, this may disincentivise listing of subsidiaries of foreign companies in India. This may encourage more unlisted subsidiaries of foreign companies to operate in India with better technological know-how, thereby placing their listed counterparts at a disadvantage,” was another concern highlighted in the Sebi note.

Legal experts say while royalty payments made by companies need to be regulated, the issue needs to be handled delicately.

“A shareholders’ approval for listed subsidiaries will run the risk of minority interference and could be a deterrent for listing,” says Vidisha Krishan, partner, MV Kini & Co.

Kotak panel member and founder of proxy advisory firm Stakeholders Empowerment Services J N Gupta says, “Five per cent is a good start. Based on experience, these norms can be relooked at. The corporate governance code will be reviewed every five years.”

Experts say royalty payouts are legitimate transactions between an MNC and its parent, who gives it access to brand and technology. However, companies should be able to better convince their shareholders the basis of payments and its importance.