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Post-Merger Corporate Governance

Corporate governance is an important aspect for the success and growth of any organisation. A well-structured corporate governance regime becomes even more important post a merger (strategic or otherwise). It might prove to be especially beneficial in the smooth transition and functioning of the business of the merged entity, especially during the early stages after the merger. At the same time, a weak corporate governance structure may be detrimental to the success of the merged entity.

In a merger, the merging entities commonly come together to work and operate as a single merged entity. This would mean the integration of different cultures, mindsets, viewpoints, work ethics, principles, etc. Therefore, post-merger corporate governance becomes important so that all discussions between the key stakeholders of the merged entity are seamlessly documented leaving zero scope for potential conflict in the future. This would also help the key stakeholders to run the business of the merged entity without having to worry about internal conflicts, mismanagement, etc. Also, depending on the end goal or the objectives of the merging entities, there has to be a clear understanding on the type of merger to be undertaken. Refer to our previous post on M & A: Different structures and a comparative to know more about different structures of M&A.

What is Corporate Governance?

Before moving on to the different aspects of corporate governance to be considered post a merger, let us try to understand the meaning of the term ‘corporate governance’. With respect to early-stage unlisted entities, corporate governance generally refers to the internal rules and policies of the organisation, the relationship between the shareholders, the roles and responsibilities of the directors and the top management and the decision-making structure, including the financial and operational decision making. In a nutshell, it includes all aspects which govern the organisation and basis which business is conducted and an organisation is run, both with respect to internal stakeholders, as well as external stakeholders.

Significance of Post-Merger Corporate Governance

Merger of entities, more often than not, would mean the integration of different cultures, mindsets, viewpoints, work ethics, principles, etc. Even though the end goal would be the same, that is, the success and growth of the merged entity, perspectives on the means to achieve the end goal may differ from person to person. However, since the merging entities would no longer be separate entities, it is important that the means to achieve the end goal is also aligned. Thus, while corporate governance is very important for every organisation, it gains even more significance post a merger.

There has to be a clear understanding on the structure of the corporate governance post-merger, which could primarily be recorded discussions and step plans to achieve the objectives of the merger. For example, if the main objective of a merger is market expansion of the business, it would be good to have a clear step plan detailing out the potential markets, key people to target the same, timelines and other operational parameters which could eventually determine achievement of results as agreed amongst the key stakeholders. If a merger involves employee movement, a clear plan for the transitioning of employees, in terms of location, identification, compensation plan, positive interactions across teams and often (in new age companies) regular counselling on challenges faced may prove to be tremendously beneficial in the long run.

Also, post the merger, it is always better to have each and every discussion documented. Such discussions (including the informal discussions) should also be conducted at the board level, which would help in ensuring that the important stakeholders are part of these discussions. The objective is not to increase bureaucracy but to ensure that the operations are seamless. This might not seem to be important especially during the initial stages after a merger. However, the importance of documenting every discussion comes into play when, at some point, the difference of opinion arises. In order to avoid tense and awkward situations at that point of time, if every decision or discussion in relation to the business and operations is documented and is taken with the knowledge of all the key stakeholders, it would to a large extent help in solving the issue at hand in a much more efficient and faster manner.

A merger would, in most circumstances, result in a change in the board composition and management. The board of the merged entity will play an important role in effective management and quick transition. The composition of the board (and the committees of the board) is usually determined prior to the closing of the transaction and is documented in the transaction documents. The composition of the board (and the committees of the board) will have to be properly thought through and well planned. Every member of the board/committee needs to understand their respective roles. It is important to ensure that there is equal representation for all the key stakeholders. The members of the board/committees have to be diverse, experienced and should have a clear understanding of the goals of the merger. Also, it is important to conduct review meetings to ensure that the goals or targets are being met and if not, analyse on the reasons and improve on the same. The board/committee meetings may be conducted on a regular basis.

It may be a good option to appoint an independent director to the board. This will help in situations where there is a difference of opinion between the various members of the board since the independent director will be a neutral party and would be able to give unbiased opinions. The independent directors bring objectivity and an independent opinion to the decisions made by the directors. They can also help in bringing more transparency to the proceedings of the board and also ensure that the interests of the shareholders are given due regard. However, an independent director can play a major role in ensuring good corporate governance only as long as he/she functions independently. His/her decisions should not be influenced by the other board members. Refer to our previous post on Independent Directors to know more about independent directors and their independence.

Conclusion

Even though there is no specific statute or law governing corporate governance as a whole in case of unlisted companies, there are various provisions under the Companies Act, 2013, SEBI guidelines, etc. which indirectly strives to have a good corporate governance system like provisions for appointment of independent directors and their roles and duties, appointment of audit committees, role of directors, etc.

To achieve the goals and objectives of the merged organisation and for a smooth transition, a well-structured corporate governance is vital.

 

Author: Paul Albert, Associate at NovoJuris Legal

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ESOP vesting: Can it be paused during maternity leave?

Employee Stock Option Schemes (“ESOPs”) are structured by companies such that the employees are granted options which is a right that vests over a period of time. Upon vesting the employee can ‘exercise’ and shares are allotted by the company (or transferred by the Trust, if the ESOP is administered by a Trust).

The question is, can the vesting be paused / stopped for reasons such as sabbatical, unauthorized leave, garden leave, maternity leave etc.?

Sabbaticals, garden leave is usually a program / policy that a company would have and they spell out treatment of full pay, partial pay, benefits and the like.

Unauthorized leave is usually treated as mis-conduct and is treated per company’s policies.

However, maternity leave is a statutory right and the pay and other benefits cannot be stopped or paused during this period.

The United Nations Convention on the Elimination of all forms of Discrimination Against Women (“UNCEDAW“), which India is a signatory to, mandates under Article 11 that State Parties are required to ensure that the female employees would have a right to pay or comparable benefits without loss of employment, seniority or social allowances.

India being a signatory to the UNCEDAW is bound under the obligation of pacta sund servanda Article 26 and Article 18 providing for the obligation not to defeat the object and purpose of a treaty of the Vienna Convention on the Law of Treaties (“VCLT”).

Vesting of ESOP during Maternity Leave

The vesting of options stays in effect as long as the employee remains in the employment of the company. A female employee’s employment, during maternity leave, cannot be terminated in accordance with Section 12 of the Maternity Benefit Act 1981 and it shall be unlawful for her employer to discharge or dismiss her during or on account of such absence.

The said position has been upheld in the case of Neera Mathur v Life Insurance Corporation of India[1] where it was held that the employment of a female employee shall be protected and it would be wrongful on part of the employer to terminate the employment of the female employee during the period of maternity leave. The same position was upheld in the case of Bharti Gupta (Mrs.) v. Rail India Technical and Economical Services Limited and Ors[2] wherein it was held that Section 12 of the Act underscores the independent and inflexible nature of the liability to mandate that no woman employee can be dismissed on account of her pregnancy. It is the right of the employee to get medical benefits since such grant of maternity benefit is according to the mandate of the law.

Section 5 of the Maternity Benefit Act 1981 states that female employees cannot be denied the emoluments such as continuation of employment and payment of wages on account of being on maternity leave. This position has been upheld by the Supreme Court in the case of Municipal Corporation of Delhi v. Female Workers (Muster Roll) and Ors[3].

ESOP taxation is treated as a perquisite. Ie. at the time of exercise, the difference to exercise price and fair market value is taxed as perquisite. Shares when sold are subject to capital gains tax.

An inference can be drawn from the above, that vesting of ESOP cannot be suspended, paused during maternity leave.

Author: Mr. Spandan Saxena

[1] AIR 1992 SC 392

[2] 2005 VII AD (Delhi) 435

[3] AIR 2000 SC 1274.

Results of the Second Intercollegiate Competition on Data Protection – The New Frontier

The results of the “Second Intercollegiate Competition on Data Protection – The New Frontier” are out.

The Essay competition was devised with the intent of apprising law students with the regulatory developments in the field of data protection. We are glad to have received an overwhelmingly positive response to this initiative.

The winners of the Competition are:

1. Gayatri Puthran – Jindal Global Law School
2. Shashank Saurabh – National University of Study and Research in Law
3. Anisha Singh – Chanakya National Law University
We would like to congratulate all the winners and wish them all the very best.

COMPANY SECRETARIES – THE PROFESSION AND BEYOND

Introduction

The word ‘secretary’ has originated from the Latin word ‘secretarius’ which means a person who is entrusted with a secret. In the corporate world, a Company Secretary is a person whom every Board member value and when correlated with the literal meaning of the word ‘secretary’, it reflects the confidentiality of the role and the trust that is placed on that position. The trust is built through their competence and it is their honesty, integrity, authenticity, accountability fused with skills, knowledge, experience and performance that make them stand out of the crowd.

Despite having an array of roles in different areas, it is a common belief that the role of Company Secretaries is confined to Company Law alone. However, over the years it has been observed that Company Secretaries have ventured into areas beyond Company Law and have emerged as experts in taxation, financial market services, mergers & amalgamations, etc. Hence, we as professionals should explore beyond our comfort zone and be the experts that we are.

Analysing the Role of Company Secretaries

The role of a Company Secretary is not the typical stereotype of a man or woman who assists a board chair or executive director. The role has evolved from just being a support person to being the ‘trusted advisors’ and the ‘go to experts’ because Company Secretaries understand the law. Company Secretaries have transitioned to one of the key governance positions within a corporation and can help align the Company’s policies, the management functions, various regulatory compliances and the mutual ethics and trust in a Company to achieve corporate growth.

It has been very rightly said that “the profession of Company Secretaries has an important part to play in the introduction of professionalism in the area of corporate management” by Shri P Shiv Shankar, former Minister of Law, Justice and Company Affairs. The Company Secretaries possess the fundamental and distinctive characteristics or qualities of being remarkable professionals that corporates seek. They develop a law-abiding culture and a sustainable framework for the Company wherein a constant watch prevails over the company’s activities. With corporate governance being very prominent in recent times, the role of Company Secretaries has increased multiple folds in achieving the same and also maintain harmony among its stakeholders with respect to compliance simultaneously.

Thus, it is imperative that we discuss the role of Company Secretaries beyond the boundaries of Company Law. Company Secretaries have ventured into areas relating to corporate restructuring, taxation services, capital market related activities, foreign collaborations and joint ventures, international trade and WTO services, labour and industrial laws, intellectual property laws etc. They independently handle such activities and have emerged as experts in these areas.

The one such area that Company Secretaries have mastered now over the years is the field of taxation. Company secretaries are the one who are capable of understanding the dynamics of law and taxation system. Company Secretaries are termed to be masters of law; whether it is in indirect tax laws or the GST law, they were already recognized under the various tax laws and in VAT profiles by various State Governments. It has been often seen that Company Secretaries in Practice, along with providing secretarial compliance services are now tax advisors for corporates too. The advent of the reforms in the tax laws in the country are a welcoming change for professionals as it has expanded the ambit of practice of Company Secretaries particularly. After GST implementation the work area of professionals become wide and they can provide a single window solution to their client. It’s a new tax and a new opportunity. For better administration of new tax regime in the country, it is required to have more and more competent and equipped professionals to facilitate regulators to ensure compliance of various statues and thus help in achieving this ambitious task. The Company Secretaries, who practice in almost all the branches of law and have a strong accounting background, are competent professionals to handle the regulatory compliance under the proposed GST laws. They are skilled professionals who understand legal, financial and compliance dimensions of business entity comprehensively.

It has been also seen that Company Secretaries are speaking on public forums on topics related to Foreign Direct Investment (FDI), Cross-border mergers, Banking regulations, International Trade, Corporate Communications, Public relations, etc. In the Indian corporate set-up, ensuring governance has become a mandate owing to the introduction of various acts, tax reforms and policies by the Government. Also, the role of a Company Secretary becomes very limited when it comes to unlisted and private companies. They are often entrusted with finance and legal work to fill in their working hours. Hence, keeping the practice areas confined to Company Law will result in the stunted professional growth of Company Secretaries. It is important that Company Secretaries are updated about the various economic reforms brought about in the country and broaden their scope of work into different sectors. There has to be a constant effort in staying relevant.

A guide to the Board of Directors of the Company

Apart from being an expert in their own field, it is the ethics and the values that make Company Secretaries distinct as a professional. Being diligent in what they do and responsible for their act makes the company achieve its goals. It is their responsibility to ensure that the company and its directors operate within the law. In simple terms, they are the professionals who act as power boosters for the companies to encourage their plans and ensures its smooth accomplishment with complying all applicable laws in the field. Beyond their normal course of duties, company secretaries provide advice and counsel to the board of directors, company’s shareholders and serve as confidantes.

Company Secretaries are the officers of the company who align various management functions with company policies, ensures compliance of all applicable laws and endeavours to develop mutual trust between various stakeholders for sustainable growth of the company. In addition to providing advice and guidance, they are called upon to create and manage relationships between the different players in the corporate governance system. But how do they act as the guide to the Board? Few attributes that Company Secretaries possess which make the Board of Directors of a Company bank on them, are listed below:

  • Possessing crisp and thorough knowledge of the business environment in which the organization operates as well as of the laws, rules, and regulations that govern its activities.
  • Identifying what and advising why certain corporate governance best practices should be adopted by the organization. This may be as a result of compliance with laws, regulations, standards and codes or because the practices make good operational sense for the organization.
  • Implementing within the organization those best practices through the creation and maintenance of cultures and relationships.
  • Being flexible, creative and detailed, not losing sight of perspective and giving the board and managers a “heads up” about new developments.
  • Having a holistic view of the governance framework and ensuring that this framework and any supporting policies and procedures are clearly implemented by the Company.
  • Being articulate about the decision to be taken and what impact it would have on implementation.

Organizations need to put in place structures, policies, and procedures that comply with best practice. This on its own is compliance and doesn’t create good governance. For good governance to be present, the people who work in the organization need to apply or practice these structures, policies, and procedures to create a culture within the organization that enables them to work effectively. This, in turn, leads to the organization being successful. For example, compliance is putting in place a code of ethics; governance is about creating an ethical culture.

A good Company Secretary should be able to assist the organization with identifying what should make up the correct infrastructure for each organization. In addition, and some would say more importantly, once the correct infrastructure has been identified, the Company Secretary should be able to assist the organization with the creation of the culture and the relationships required to ensure that the infrastructure is implemented, managed, and maintained effectively for the success of the organization. Hence, as professionals, it is a constant endeavour to develop themselves to be better at their job and have the knowledge to be able to guide not only the Board of Directors of a Company but also each individual who help run the show.

Whatever type of organization the Company Secretary works for, he or she usually plays a valuable role as a “bridge” for information, communication, advice, and arbitration between the board and management and the organization and its stakeholders, including its shareholders. The Company Secretary can, among other things, help management understand the requirements of the board, help the board understand the challenges faced by management in meeting the requirements of the board, and help the organization manage stakeholder relations.

In the light of economic developments in recent years stakeholders of companies, are increasingly concerned with the conduct of the affairs of the company and therefore it is essential that best practice is adhered to at all times and evidence is available to demonstrate the same. Thus, Company Secretaries have to ensure that the decisions taken by the Board and the management are transparent and the society is benefited from those decisions ultimately. Thus, Company Secretaries are the professionals, who are responsible for the Company’s actions. The onus of educating the Directors about the law, the ethical aspect of abiding the law and finally taking the decisions legally and ethically, is on the Company Secretaries. They are the watchdogs of a Company who are constantly updated about the changes in legislation and educating the Directors and management of the Company about such changes. Simply put, Company Secretaries should have a proactive approach rather than a reactive one.

Skills to be a Professional

It is apparent that Company Secretaries are required to have a thorough knowledge of the law. That is how they are the experts in what they do. But it should also be noted that merely having the knowledge is not enough as professionals. There are certain soft skills that they should possess to shape them as one of the best professionals in the country. Few have been listed below:

  1. Reliability: A person should be consistent in his or her job, for the organisation to rely on their advice. Being confident and delivering accurate results every time is a sign of consistency. The professional should be dependable because someone else’s work will be impacted by his or her actions.
  2. Quality Work: Delivering quality work every single time is what is expected of a Company Secretary. This includes accuracy and in-depth knowledge about their field of work as well as providing practical support to the Board.
  3. Depth of knowledge: The profession of a Company Secretary requires them to be constantly updated about the changes in laws. Increasing their knowledge makes them the expert in what they do. It is a constant learning process.
  4. Accountability: Being a professional it is their duty to be accountable for their work. They are entrusted with responsibilities and thus are expected to take up ownership for their job.
  5. Leadership: Being accountable is the path to leadership. It is a quality that a professional should possess to excel in their job.
  6. Integrity: Professionals are known by their integrity. Keeping moral principles intact and being ethical are the key factors of being country’s one of the best professionals.
  7. Diligence: A professional should show diligence in his/her work. One should make utmost effort to execute their responsibilities with care because that is what they are expect of. They should be thorough in their job.
  8. Communication: Company Secretaries serve as a link between the Company, the Board of Directors and other stakeholders. Hence, communication is important to ensure that the gap is bridged between the Company and its stakeholders.
  9. Time Management: Timeliness might seem simple, but it is one of the most important qualities in a professional.
  10. Flexibility: The law is changing every day and as professionals Company Secretaries should also be adapt the change. This profession requires flexibility and the willingness to change.
  11. Confidentiality: The information acquired by Company Secretaries during the course of their employment in an organisation is strictly confidential. It is of utmost importance that he or she does not disclose it or misuse it in any manner whatsoever.
  12. Independent: The professional should possess skills to independently handle the work responsibility they are entrusted with.

It is a great deal of responsibility that Company Secretaries carry on their shoulders. Thus, it is imperative that they as professionals grow constantly. There always exists a burden on these professionals to keep themselves updated and motivated to learn and also nurture their skills as they are among the most valued professionals in terms of importance and impact.

Concluding Thoughts

As a professional, Company Secretaries handle multiple roles. The are one of the Key Managerial Personnel of the Company who carries a huge responsibility on their shoulders and have immense responsibility towards the nation. They contribute in several areas such as Direct and Indirect Taxation, Corporate governance, Arbitration & Conciliation, Corporate Communication & Public Relations, Human Resources, Corporate Laws, Corporate Administration, Foreign Exchange matters, Board and shareholders meetings, Corporate Compliance Management, Stock exchanges and Listing agreement, Mergers and Amalgamations, Arbitrations and Reconciliation and many more. With each passing day, this profession is commanding respect not only in the corporate sector but is well regarded by other professionals as well as by governmental authorities and agencies concerned with corporate governance in India.

Company Secretaries possess the power to influence the nations’ corporate governance framework, so to abide the law in letter and spirit by all the professionals would become a boon for the country and give rise to well-governed business boosting the economic sector, helping the nation towards rapid economic growth. Seeing the factual and today’s scenario there is a lot of scope for Company Secretaries in India and the possibility of future growth is high as the demand of corporate governance is rising. Thus, the role of Company Secretaries shall increase multiple folds owing to the compliance requirements getting stricter in the years to come.

Author: Alivia Das Senior Associate, NovoJuris Legal

This article was first published in the ICSI Charted Secretary Journal – March 2019 issue.

The vulnerability of Medical Devices and Medical Institutions in the age of IoT and Connected Networks

Medical devices have taken quantum leaps in terms of their functionality, intelligence and precision in the last decade or so. Improved design, better and cheaper production materials, and the inclusion of more sophisticated software have all contributed to this improvement and have made medical devices more adaptable and user-friendly. However, perhaps the most significant development that has greatly enhanced the capabilities of medical devices is the use of connected networks by these medical devices to accomplish machine-to-machine communication.

The modern age medical devices do not function in isolation anymore; they function as integrated medical devices, where the medical device, networks, software, operating systems, and other various technologies are integrated to serve the ever-changing needs of the healthcare industry. An unintended consequence of this interconnectivity is the increased susceptibility of the devices/networks to cyber-attacks as any weak point in the network may be exploited by cyber offenders, leaving all the devices in the network vulnerable.

This freely downloadable handbook identifies the problem of cyber vulnerability of the medical and healthcare industry and analyses regulatory approaches undertaken by United States of America (USA), European Union (EU) and India to lower the susceptibility to cyber-attacks. Further, the handbook assesses the impact of each regulatory framework implemented by the legal jurisdictions mentioned above.

Download Here: Vulnerability of Medical Devices and Medical Institutions_NovoJuris

Externalization: Flipping the holding company outside of India

We have seen a steady increase in the number of companies, especially tech and tech-enabled companies set up their entities outside of India. More often than not, the reasons are better valuations, ability to raise larger investments, large customer base etc. We are also seeing a few companies (so, cannot call it a trend) internalizing and flipping their holding company into India. Strangely, for the same reasons.

Here’s an exclusive interview with Mr. Shailesh Ghorpade, Managing Partner and CIO at Exfinity Venture Partners. Exfinity provides innovation capital and with established connects and ecosystem across India and US, Exfinity focuses on pioneering start-ups that are ready to scale across the global stage. It was nearly an hour-long candid discussion on all things startups, scaling-up, cross border, hiring, issues typically faced by founders while expanding etc. The lucid thinking during the conversation was delightful to witness.

picture Shailesh-Exfinity.jpg

Good morning and thanks Shailesh for taking the time to talk to us on your experiences of working with early-stage founders and their journey of expanding beyond India.

Sharda: You have seen BTB businesses very closely and I have heard you say before that many these entities should be outside of India. Why and what are those factors that a founder should think through before structuring themselves up outside India.

Shailesh: In India, we have given more attention to BTC where the markets, consumers, sellers are in India. However, you would have noticed that in many cases, these companies are not domiciled in India. There are many investors who like the “India story” but there is some anxiety on India domiciled companies. The comfort would be to have a stable tax regime, stable regulatory regime, certainty of repatriating the proceeds during an exit are some of those.

There is a perception that it is difficult to do business in India because of the unpredictable regulatory structure and since business models are evolving faster than regulations, investors are cagey of onerous regulations being promulgated and we do have a reputation for being an over-regulated economy whether we like it or not. That is one part of it. Take the other part of the BTB businesses themselves.

Enterprise businesses don’t get as much attention as they should, though they are working on cutting-edge IP, solving a real problem, capital efficient. There are Indian large corporates who need these products. Unlike a BTC, it is not “a winner takes it all approach”. BTC will need high capital infusion, if it is the distribution game that we see India being attractive for.

However, BTB business find it hard to sell and make money in the Indian market. Indian enterprises don’t value IP or software product as much as they should and they drum-down the prices drastically. It is not about how easy or difficult to sell, but it is about ROI and price points at which the products can be sold elsewhere, especially USA.

Sharda: If it is just about customers, then the startup could have subsidiaries set up in those jurisdictions. But investors do mandate companies to set their holding companies outside of India. You did speak about “not-so-easy-do-do-business-in-India”

Shailesh: There is a greater possibility of getting a Series B, with say more than USD10 million and above, in the USA. Let me explain.

In early stage, the investor is looking at product build, its scalability more than customer revenue. This is where Exfinity and other investors in India invest the early cheque. But these companies have to scale. The larger, deeper organizations which “pay” for these products are based in the USA. So do the Series B investors who can cut a larger cheque. These Series B investors would want to invest in companies domiciled in their country since they understand the compliances, entity structures better. They also have the comfort of the other regulatory issues that I mentioned including certainty of getting the proceeds at exit.

The exit options for BTB companies is primarily trade-sale / M &A for the products. These acquirers are also based in the USA. It is so imperative that the young companies be domiciled in USA.

Sharda: Legal is certainly an issue that the founders would face. Flipping the entity or structuring them outside of India is so nuanced. The easiest part is the entity set up in the USA but the regulatory compliances from the India side is complex and nuanced (In fact, we wrote about it). Apart from the legal aspects, what are the other top 2 issues that you would highlight?

Shailesh: Hiring and Sales. They are inter-related. Let me explain. We have top notch talent in India. Indian entrepreneurs many a time are defining technology. BTB sales is about selling the technology. However, a local sales person, who knows the terrain is highly helpful. Infact, I would recommend a local sales person who can do the same “speak”, perhaps local ethnicity could play a role too in closing the sale. You might be interested to know, that sometimes the conversations veer towards India, while the discussion should be towards the product and sales itself. Hiring local sales person helps in that case.

Indian subsidiary would continue to have the product development, customer support etc.

Sharda: If there is one point you would like to tell the Indian regulators what would that be?

Shailesh: “Keep things simple”

The Government is trying its bit with Startup Fund, reducing the cost of filing IP and the like. But issues such as Angel tax, numerous compliances under Companies Act and so many other legislations are bogging the startup down. I would ask, if the legislations can help the regulator as well as the startups by keeping things simple, therefore the companies can be compliant.

Ecommerce in India: The Saga Continues

India, for many centuries, has been known for trading, establishing the Silk-route, Spice-route. With tech advancement, e-commerce (ecom) has created a new world order, “Ecom route”. Ask any FMCG company, behemoth or small, on Amazon’s disruption on their sales. Ecom, in India also finds a prominent positioning in the politician’s election mandate. The rules of the game are changing and how!

It is estimated that India’s ecommerce industry is expected to jump threefold to $84 billion by 2021. Mobile phone adoption, cheaper mobile-data plans, internet penetration are some of the driving factors.

Regulations, specifically Foreign Direct Investment norms, created certain specific ways the business and entities are structured such as ‘market Place model’, ‘inventory based model’, direct online retail.

In this Guidance note for an entrepreneur to start her ecom business, we are discussing FDI barriers, top legislations applicable to ecom, the proposed policy changes. We had earlier written a brief overview about the ecom policy, which was released on 23 Feb 2019. You can read some excerpts here.

FDI barriers and regulations in entering the e-commerce sector

India has multiple restrictions and conditions on foreign investments (under the FDI Policy) into the e-commerce sector placed by the erstwhile Department of Industrial Policy and Promotion (DIPP) and now Department for Promotion of Industry and Internal Trade (DPIIT). These restrictions are applicable to all entities who receive any FDI.

Under the FDI Policy, ‘e-commerce’ encompasses not just products traded on digital and electronic networks but includes digital products and services, as well.

An ‘e-commerce entity’ is treated differently from other kinds of entities such as manufacturers, wholesale traders, single-brand retailers, etc. In a B2C market, an e-commerce entity is only allowed to engage in a marketplace model of e-commerce, where the e-commerce entity will only act as a facilitator between the buyer and seller and will have no control over the inventory of goods and services. If the e-commerce entity starts owning the products that are being sold on the platform, they are deemed to be an ‘Inventory’ based model of e-commerce which has been restricted in India in a B2C market, whereas inventory based model of e-commerce is allowed in a B2B market.

In case an e-commerce entity is operating an ‘online marketplace’ then it is subject to further restrictions under the FDI Policy (the new changes brought in by Press Note 2 of 2018) which are summarized as follows:

  • An entity having equity participation by e-commerce marketplace entity or its group companies, or having control of its inventory by e-commerce marketplace entity or its group companies, will not be permitted to sell its products on the platform run by such marketplace entity.
  • The inventory of a vendor will be deemed to be controlled by the e-commerce marketplace entity if more than 25% of purchases of such vendor are from the marketplace entity or its group companies, thus rendering the marketplace an inventory-based of e-commerce.
  • Market place entity can provide services such as logistics, warehousing, advertisement/marketing, payments, financing etc. could be provided by e-commerce marketplace entity or other entities in which e-commerce marketplace entity has direct or indirect equity participation or common control, to vendors on the platform at arm’s length and in a fair and non-discriminatory manner. Provision of services to any vendor, on such terms which are not made available to other vendors in similar circumstances, will be deemed unfair and discriminatory.
  • An e-commerce marketplace entity cannot mandate any seller to sell any product exclusively on its platform only.
  • Cash-back provided by group companies of marketplace entity to buyers shall be fair and non-discriminatory.
  • The entity must not directly or indirectly influence the sale prices of the goods and services and shall maintain level playing field.
  • The entity will be required to furnish a certificate along with a report of statutory auditor to the Reserve Bank of India, confirming compliances of the guidelines under Para 5.2.15.2 of the FDI Policy, 2017, by September 30th of every year for the preceding financial year.

Another classification one should take care of is, whether the entity is dealing directly with final consumers (Business-to-Customer, B2C) or is simply dealing only with other business entities (Business-to-Business, B2B). The following table summarizes the different kinds of business entities having FDI that may take their businesses online and the major factors to be taken care of are:

Type of Entity Permitted Activities Can Keep Inventory? Permitted FDI/Route
E-commerce entity Marketplace Model (for goods and services:

B2C e-commerce)

No 100% Automatic
Manufacturer B2B and B2C e-commerce

(Selling its products manufactured in India, through wholesale and/or retail through e-commerce)

Yes 100% Automatic
Cash & Carry Wholesale Trader B2B e-commerce

(sells goods to retailers, industrial, commercial, institutional or other professional business users or to other wholesalers and related subordinated service providers)

Yes 100% Automatic
Single Brand Retail Trader B2C e-commerce (at least 30% Indian sourcing of products, and must be operating through at least one brick and mortar store) Yes 100% Automatic
Food Product Retail Trader B2C e-commerce (retail trading of food products manufactured and/or produced in India) Yes 100% Government Approval
Services (Subject to respective conditions and applicable laws) sale of services through e-commerce (Relevant Sectoral Cap) Automatic

Other laws and regulations to be considered while operating an e-commerce business

Irrespective of the fact that whether the entity doing the e-commerce business has FDI or not, these are the legal aspects of the business which are needed to be taken care of by any e-commerce business running entity.

Sl. No. Law / Regulation / Legal Aspect Relevance to e-commerce
1. Indian Contracts Act, 1872 read with Information Technology Act, 2000 Validity of contracts formed through electronic means. Rules as to communication and acceptance of proposals, revocation, and contract formation between customers, sellers, and the marketplace provider. Terms of Service, Privacy Policy and return policies of any online platform are to be laid out such that they are legally binding agreements.
2. Information Technology Act, 2000 (IT Act) and General Data Protection Regulations (GDPR).
  • Compliances under Information Technology (Reasonable security practices  and procedures and sensitive personal data or information) Rules, 2011
  • Intermediary Rules 2011 under the IT Act stipulates the regulations relating to the content displayed on the intermediary website especially pertaining to defamation and obscenity.
  • Under section 79 of the IT Act certain safe-harbours are available to e-commerce entities functioning as ‘Intermediaries’.
  • Regulations applicable to ‘Intermediaries’ relating to the content displayed on the portal, especially pertaining to defamation and obscenity.
  • If the end consumers happen to be an EU resident, GDPR compliance becomes mandatory.
  • Issues related to data protection standards and data security. If the end consumers happen to be EU residents, GDPR compliance may also ensue.
3. Intellectual Property Issues
  • The entity must secure all trademarks and copyrights intended to be used by it, one must also be mindful to not infringe the trademarks and copyrights of other businesses as well.
  • Selling of counterfeit goods and misuse of trademark rights by sellers listed on platform is a significant challenge, and must be dealt with by the platform operator to avoid prosecution.
  • In the age of such wide use of internet e-commerce entities shall be aware of various intellectual property infringements that may happen online such as cybersquatting, identity theft, copyright infringement, caching, derivative works, domain name protection and etc.
  • There are some added steps that the ecom entity has to take, as per the Draft Policy (read below)
4. Payment and Settlements Systems Act, 2007 and other RBI regulations on payment mechanisms Under the law “payment system” means a system that enables payment to be effected between a payer and a beneficiary, involving clearing, payment or settlement service or all of them, but does not include a stock exchange. An e-commerce entity has to make sure if it qualifies as a payment system and shall comply accordingly.

As per the RBI notification DPSS.CO.PD.No.1102 /02.14.08/ 2009-10 dated 24 November 2009, it is mandatory for an intermediary which is receiving payments through electronic modes to have a Nodal Account in operation for settling the payments of the merchants on its online e-commerce platform.

Further depending on the envisaged arrangements for payments for the transactions on the portal, the entity must comply with the relevant rules relating to online payments made by the Reserve Bank of India (RBI).

5. Labelling and Packaging An e-commerce entity as per the products listed on its platform must conform to the labelling and packaging norms set by the regulations made under relevant laws and the rules therein such as:

  1. Legal Metrology Act, 2009;
  2. Food Safety and Standards Act, 2006;
  3. Drugs and Cosmetics Act, 1940, etc.
6. Legal Metrology Act, 2009 read with Legal Metrology (Packaged Commodity) Rules, 2011 The web-platform must display requisite information about the goods displayed on sale, such as, units, dimensions, weight, etc. on product page itself.
7. Sales, Shipping, Refunds and Returns The entity must have in place an adequate policy dealing with sales and shipping of the products, the default provisions relating to the legal incidence of transfer of property in goods, and other aspects of sales such as warranties and conditions, etc. are covered under the Sale of Goods Act, 1930.

The entity must also have in place, in clear words, a returns and refunds policy to be adhered by the sellers and buyers.

8. Consumer Protection/ Dispute Resolution As a provider of goods or services under the Consumer Protection Act, 1986, the entity must have in place adequate policies to address consumer complaints. Moreover, it is advisable for the e-commerce platforms to have mediation and arbitration mechanisms in place as well.
9. Competition Issues Fixation of prices by arrangements between sellers listed on the platform and the entity, exclusive sales agreements, and other practices under the scope of Sections 3 and 4 of the Competition Act, 2002 can be brought under the scrutiny of the Competition Commission of India. The entity must be mindful of these factors while entering into any arrangements which may leverage its existing dominance in the market, or work towards the creation of foreclosure or entry barriers in the relevant market.
10. GST Applicability Irrespective of whether the annual turnover of the entity is lower than the prescribed threshold, e-commerce operators are not eligible for composition levy scheme under the GST laws of India. Moreover, it is mandatory for all e-commerce operators and sellers/distributors/suppliers who sell through e-commerce to get GST registration in all States where they purport to sell their goods/services.
11. Other Local laws and Sector Specific Laws The premises from which the business is run, and the manufacturing, warehousing, and other aspects of the business will be continued to governed by sector specific laws and local laws as applicable. Due adherence to such laws must also be ensured.

Here’s an old post that we had written on licenses and registrations for warehouses.

The future of e-commerce in India

Keeping ‘data’ central to the idea of governing the e-Commerce industry in India the DPIIT on February 23, 2019 published the ‘Draft e-Commerce Policy’ (“Draft Policy”).

The Draft Policy focuses on data protection, the State’s paternalistic attitude towards the use of the citizen’s data and cross border transactions. The Draft Policy intends to regulate some things beyond e-commerce i.e. it proposes to regulate technologies like AI, IoT, Cloud computing and Cloud-as-a-Service etc. On a holistic level it is understood that these technologies empower e-commerce industry currently and are integral to its growth and therefore the Government intends to bring these technologies under the purview of the Draft Policy. The Draft Policy is a mix of visionary thought process, advanced technological solutions, putting in place digital infrastructure to support India’s digital economy.

Following is a summary of some of the significant features of the Draft Policy.

Changes in Customs regulations and export promotion through e-commerce

The Draft Policy proposes a customs electronic data interchange (EDI) platform, aggregating various government department concerned with import and export of goods in India, such as the Indian Post Department, DGFT, RBI, and other departments for facilitation of online customs clearance through the EDI platform. In addition, provision will be made to source Export Data Processing and Monitoring System (EDPMS) data from RBI for confirmation of payments, instead of Bank Realization Certificate.

KYC will be mandatory for all the shipping companies and individual sailors. The KYC will be mandated to identify exporters and importers and track suspicious activities. The Draft Policy also intends to include e-commerce in the National Integrated Logistics Plan with focus on faster delivery with emphasis on lower costs.

To promote exports through e-commerce the Draft Policy has suggested to include e-commerce sector in the proposed National Integrated Logistics Policy, where it will increase the existing regulation exemption of INR 25,000 for consignments through courier mode, it will simplify the requirement of documentation for exports, the EDI will be put in place at the earliest, transaction costs for MSMEs and start-ups shall be reduced who are undertaking any exports, the Government will set up Air Freight Stations (AFS) in all the leading airports across India so as to facilitate cargo processing at the airports and simultaneously the Government will try to negotiate lower costs of exports with international freight carriers through Indian Post department.

The Government intends to continue charging custom tariffs on any digital goods being traded electronically (imposing custom duties on electronic transmissions). Whereas the Government is strict on its stance of not accepting the permanent moratorium on custom tariffs for goods (including digital goods) traded electronically as proposed by the WTO. 

Sale of Counterfeit and prohibited goods

A major emphasis has been given on curbing sales of counterfeit products through e-commerce in India. The Draft Policy emphasises on no trade mark infringement and that customers at large shall not be deceived by using deceptively similar trademarks. In case an e-Commerce entity receives a complaint about a counterfeit/fake product then the entity shall convey such misuse of the trademark within 12 hours from receiving the complaint to the trade mark owner. Whereas in case any prohibited goods/products have been sold on any e-commerce platform the entity operating such e-Commerce platform shall delist such products within 24 hours from receiving such complaint. This is pretty onerous and while the ecom entity is supposedly an intermediary, there are many obligations imposed on it. We had earlier written about intermediary liabilities which you can read here.

Further, all the e-commerce platforms/websites will have to display a list of all the prohibited products in India. In case a prohibited product is found to be sold on the platform or is found to be listed on the e-commerce platform the same has to be removed immediately and the seller listing such prohibited products shall be blacklisted and shall not be allowed to sell other products on the e-commerce platform. In some sense, the ecom entity should do some heavy policing.

Consumer Protection: The Draft Policy suggests a number of measures:

  • All e-Commerce sites/apps available to Indian consumers shall display prices in INR and must have MRPs on all packaged products, physical products and invoices generated.
  • Details of sellers shall be available for all the products sold online. Sellers shall provide undertaking regarding the genuineness of any product sold online.
  • In case of a counterfeit product is sold to a consumer, the primary onus to resolve such an issue will be of the seller, but the intermediaries shall return the money paid to them by the customer and the marketplace shall seize to host such products on their platforms.
  • The intermediaries shall curtail piracy on their platforms.
  • Further to curb piracy a body of industry stakeholders will be created that shall identify ‘rogue websites’. These rogue websites will be added to ‘Infringing Website List’ (IWL). IWL will enable the ISPs to remove or disable these websites. It will also enable payment gateways to curtail the flow of payments to or from such rogue websites. Search engines will be able to efficiently remove such rogue websites identified in the IWL.

Mandatory Registrations in India

As per the Draft Policy, all the e-commerce entities including intermediaries and developers of mobile application which are available for download in India shall mandatorily be registered as importer on record or as a local entity through which the commerce is facilitated in India and also provisions regarding the appointment of a local representative has been introduced.

Provisions regarding the import of gifts

In the view of misuse of ‘gifting’ route, where foreign merchants use to sell cheap products to Indian customers as gifts to circumvent the customs and import duties, as an interim measure, all such parcels shall be banned, with exception of life-saving drugs.

Ease Of Regulation

Given the interdisciplinary nature of e-commerce, it is important for the Government to tackle various regulatory challenges. The Draft Policy suggests formulating a Standing Group of Secretaries on e-Commerce (SGoS), which shall be an important body for tackling various legal issues emerging from various statutes such and Information Technology Act, 2000 and rules thereunder, the Competition Act, 2002 and the Consumer Protection Act, 1986.

Additionally, the Draft Policy states that “All e-Commerce websites and application available for downloading in India must have a registered business entity in India as the importer on record or the entity through which all sales in India are transacted”.

The Government intends to establish technology wings in each Government department.

Data Infrastructure development

The Draft Policy takes forward the digital India initiative and intends put in place secure and digital infrastructure and encourage the development of data –storage facilities/ infrastructure including data centres, server farms, towers, tower stations, equipment, optical wires, signal transceivers, antenna etc.

The Government will add the above mentioned infrastructure facilities in the ‘Harmonized Master List’. This will enable regulation of the listed infrastructure in a more streamlined manner. Whereas the infrastructure will be put in place by various implementing agencies, while financing agencies may identify these as infrastructure that they may intend to support.

This will facilitate achieving last mile connectivity across urban and rural India. The Government by developing such data/digital infrastructure wishes to support India’s fast-growing digital economy and create employment.

Data and cross-border transfer of data

The Draft Policy recognises the rights of an individual over its data by stating that “An Individual owns the right to his data” and therefore the use of an individual’s personal data shall be made only upon seeking his/her express consent. It further states that the data of a group is a collective data and therefore a collective property of that particular group; it extends this rationale to state that “Thus, the data that is generated in India belongs to Indians, as do the derivatives there from”. But the Draft Policy ends up categorising data of Indians as a collective resource and therefore a “national resource”.

The Draft Policy states that “All such data stored abroad shall not be made available to other business entities outside India, for any purpose, even with the customer’s consent”, what follows this point in the Draft Policy, restricts sharing of data with any third party in a foreign country even if the individual has consented to such sharing of the data except where in the following cases:

  • When data which us being shared has not been collected in India.
  • Where sharing of data has happened as per a commercial contract between the business entities.
  • Software and cloud computing services involving technology-related data flows, which have no personal or community implications; and
  • MNCs moving data across borders, which is largely internal to the company and its ecosystem, and does not contain data that has been generated by users in India from various sources, including e-commerce platforms, social media activities, search engines etc.

The intent behind such restriction is that currently India lacks stringent laws regarding cross-border flow of data. If there are no strict restrictions on cross-border flow of data Indian stakeholders will merely be engaged in back end processing of data for the EU / US based ecommerce entities without having the ability to create any high-value digital products.

To leave some thoughts with you

Ecom is an industry and is growing rapidly. The Government is bringing in so many regulatory changes to harness the potential of the e-commerce industry and make India one of the key markets for the e-commerce stakeholders across the world. Government also intends to boost the local and home-grown e-Commerce business entities and wants to provide a level playing field for MSMEs. We are seeing a growing tension between these two ideologies – FDI in ecom and local capital in ecom.

Further the changes that have been brought to the Legal Metrology Act, 2009, Food Safety and Standards Act, 2006, Drugs and Cosmetics Act, 1940 and the regulatory changes proposed in the Draft Policy in regards to consumer protection such curbing sale of counterfeit products, mandatory local registration etc. are clear indication that in the age of e-commerce purchasing goods and services is no more the same and therefore new and modern laws are required to address consumer protection.

It will be interesting to witness the implementation of these proposed regulations and whether at all it will help in accelerating the ecom growth in India.