A major contradiction between company law and government policy has come to the fore in a case that is being fought between CDC Financial Services and BPL Communications in the Mumbai high court.
Under Section 87 (2) of the Companies Act, a shareholder who has invested in preference shares but has not received any dividends for over two years can seek to invoke voting rights for his preference shares. But that provision can be in conflict with the government's ceiling on foreign investments in the telecommunications industry.
In September this year, CDC Financial Services went to court against BPL Communications, the holding company for BPL Mobile Communications Ltd (which runs the Mumbai cellular operations) and BPL Mobile Cellular (which runs operations at the cellular circles), on the ground that the company hadn't paid dividends on CDC's preference shares for over two years.
CDC also argues that BPL Communications didn't furnish information and provide clarity on its proposed merger with Birla-Tata-At&T (BTAL).
Apart from holding about 7.5% of the equity, CDC invested about Rs 148 crore in BPL Communications' preference shares (this represents roughly 85 per cent of the preference shares).
The preference shares attracted a one per cent dividend. BPL Communications, like most telecom companies, has been incurring losses and so has not paid any dividend.
CDC is backed by all the other foreign shareholders in BPL Communications. Collectively, they hold almost 40 per cent of the company's equity. If CDC wins the case, all the other foreign shareholders can be expected to seek voting rights for their preference shares.
Their voting rights in BPL Communications will then go up to over 70 per cent -- far above the sectoral cap of 49 per cent -- and they could acquire control of BPL Communications.
The case has been on in the Mumbai high court for some two months. A division bench of the Mumbai high court consisting of Justices A P Shah and Sharad Bobade has heard arguments advanced by CDC's lawyer Iqbal Chagla. Tomorrow they will hear former Union finance minister P Chidambaram present BPL Communications' case.
BPL Communications' case is that the merger with BTAL was approved by its board, CDC was represented on the board and BPL Communications has letters to suggest that CDC favoured the merger. Its case also suggests that CDC had invested a bit under Rs 150 crore in the equity -- and had received upfront a 30 per cent rate of return on its equity.
Moreover, it argues that the foreign partners' investments in preference shares are governed by Foreign Investment and Promotion Board and Reserve Bank of India approval, which clearly says that the foreign shareholding should not exceed 49 per cent.
Allowing investors to invoke voting rights for their preference shares will permit foreign investors to circumvent the government's ceiling on foreign investments in the telecom industry -- they will merely have to wait for a bit over two years and invoke their voting rights, since telecom companies won't be in a position to pay dividends for years.
Against this backdrop and in view of the sectoral cap, BPL Communications is confident of winning the case. Indeed, so confident is it that it has ruled out any out-of-court settlement.
In a response to Business Standard's questions in September, CDC had insisted that it had been advised that the foreign investment ceiling in the telecom industry did not present a barrier to its right to vote on the basis of its preference shares.
The Mumbai high court will determine whether company law or government policy is superior.
