[Agam Gupta and Shubhanshu Dubey are third-year students at Hidayatullah National Law University, Raipur]
Introduction
The recent wave of penalties levied by the Ministry of Corporate Affairs (MCA) against both LinkedIn India and Samsung Display Noida for violations of Significant Beneficial Owner norms (SBO norms) has sent shockwaves through the Indian MNC landscape. These hefty fines highlight the growing scrutiny of foreign subsidiaries and their adherence to SBO disclosure requirements under the Companies Act, 2013. But are these penalties just a temporary blip, or do they signal a more concerning trend for MNCs operating in India?
Demystifying SBO Norms and the Recent LinkedIn India Case
Understanding SBO Norms and their Significance
The Companies (Amendment) Act, 2017 introduced SBO provisions in response to recommendations by the Financial Action Task Force (2012) and the Companies Committee (2016). The committee’s report observed that these provisions aim to address global concerns regarding the misuse of corporate vehicles for tax evasion, money laundering, and terrorist activities, often facilitated by complex ownership structures designed to obscure true ownership.
With the new SBO notification in 2019, the scope of the due diligence required for identification has widened. As discussed above, the MCA resorted to a subjective test in the present case. The twin-test framework has equipped authorities with effective methods to identify the SBO. With the expansive scope defined by 'significant influence', addressing the subjective test necessitates a case-specific perspective, prompting careful consideration and introspection to navigate potential ambiguities.
The Companies Act, 2013 (“the Act”) defines "control" broadly under Section 2(27) of the Act to encompass influence exerted through shareholding, management rights, agreements, or other means. Further, Rule 2(h) of the Companies (SBO) Rules, 2018 establishes both subjective and objective criteria for identifying SBOs. Additionally, Rule 2A mandates that companies take all necessary measures to identify and report their SBOs.
The MCA Penalty on LinkedIn India
On May 22, 2024, the MCA imposed significant penalties on LinkedIn India, Satya Nadella (CEO of Microsoft), and eight other individuals for violations of SBO provisions under Section 89 and 90 of the Act. Microsoft completed its acquisition of LinkedIn, the world's largest professional networking platform, in December 2016. Satya Nadella, CEO of Microsoft, and Ryan Roslansky, who assumed the role of LinkedIn's global CEO on June 1, 2020, were identified by the Registrar of Companies (RoC) as SBOs of LinkedIn India. The RoC's order specifies non-compliance by LinkedIn India and its top executives with regulations mandating the identification and reporting of SBOs.
LinkedIn India filed an e-form MGT-6, declaring LinkedIn Technology Unlimited Company as the registered holder and LinkedIn Ireland Unlimited Company as the beneficial owner of one share, with an allegedly incorrect beneficial interest creation date. Despite LinkedIn India's claim that ownership always resided with LinkedIn Ireland, the RoC found both entities in violation of Section 89. The RoC identified Mr. Nadella and Mr. Roslansky as Significant Beneficial Owners (SBOs) under Section 90(1) of the Companies Act, 2013, based on their roles in Microsoft Corporation and LinkedIn Corporation, USA. The RoC has developed its own, specific criteria, including the holding-subsidiary test (which also assesses the ultimate holding company), the reporting channel test, and the financial control test, to establish whether an individual qualifies as a Significant Beneficial Owner (SBO). LinkedIn India was subsequently liable under Section 90(11) for failing to identify SBOs as required by Section 90(4A) and faced penalties under Section 450 for violations of Section 90(5).
This case is likely to be appealed, considering that while the RoC used clear criteria (holding-subsidiary, reporting channel, and financial control) to identify SBOs in this case, questions remain about the subjectivity of these tests and their alignment with best practices. Additionally, the broader impact on MNCs in India needs to be explored.
Understanding the violation
Section 90(1) of the Act and the SBO Rules expand the definition of Significant Beneficial Owners include individuals with significant influence or control over a company, irrespective of ownership percentage. This broadens the requirement to identify and disclose SBOs beyond those with a direct 10% stake. Under Section 90(4A) and Rule 2A, companies must actively identify SBOs and ensure compliance, requiring SBOs to submit a declaration (e-form BEN-1) within a specified timeframe.
The Adjudicating Officer (AO) penalized LinkedIn India for indirect control via board composition. The AO contended that LinkedIn Corporation's control over its Indian subsidiary's board designates Mr. Roslansky, LinkedIn’s CEO, as an SBO. Additionally, since Mr. Roslansky reports to Mr. Nadella, the AO concluded that Mr. Nadella also qualifies as an SBO due to his influence.
Counter-arguments against the AO’s decision highlight potential flaws in their reasoning. Critics argue that the AO relied on circumstantial evidence and publicly available information rather than concrete proof of Nadella and Roslansky's actual control over board decisions. Mere reporting structures and website statements do not necessarily translate to direct influence. Additionally, Section 90(1) specifies that an SBO must have the right to exercise significant influence or control, yet the AO did not establish if Nadella and Roslansky acted in concert. Furthermore, the requirement implies formal authorization for control, which was not evidenced by the public information cited.
Hence, LinkedIn India's alleged failure to comply with identification and declaration requirements triggered subsequent non-compliance. This oversight created a domino effect, as even if LinkedIn India had identified them as SBOs, they did not ensure the filing of mandatory declarations.
Foreign CEOs and the Evolving SBO Landscape in India
The MCA's recent actions, including notices to entities like LinkedIn and penalties for non-compliance, emphasize stricter SBO disclosure requirements and a greater regulatory burden. These measures aim to identify ultimate decision-makers behind foreign investments. The cases of Mr. Nadella and Mr. Roslansky highlight challenges for foreign CEOs under India's SBO framework, as both were deemed SBOs by the RoC due to Microsoft's board control at LinkedIn India and Roslansky's reporting to Nadella. The RoC argues they wield "significant influence or control" over LinkedIn India. However, this influence may not equate to direct control, particularly for professional CEOs without substantial ownership, and Indian directors have statutory obligations independent of parent company pressures.
Navigating this stricter environment necessitates a strategic shift for foreign-owned companies. Legal experts emphasize the need for companies and investors to meticulously re-assess their filings and compliance strategies. This includes a comprehensive review of investor director roles on boards, fund structures, and potential amendments to agreements to ensure alignment with Indian regulations. Notably, foreign private equity funds may need to adjust their internal agreements to enhance transparency and clearly demarcate control structures.
The recent penalties on companies like LinkedIn have ignited concerns over potential RoC overreach, risking a contradiction to the government's pro-business stance. Striking a balance between stringent regulations and fostering an inviting business environment is paramount. While initial reactions hint at potential deterrence to foreign investment, long-term outcomes may prove beneficial. Enhanced transparency in beneficial ownership cultivates accountability, potentially drawing committed foreign investors aligned with India's broader business-friendly objectives.
Is the Indian Framework Sufficient for MNC Subsidiaries?
India's SBO definition extends beyond direct ownership, aiding in discerning key decision-makers in multinational setups. Yet, the ambiguity around "significant influence" invites regulatory overreach, evident in the LinkedIn India case. Companies, especially MNCs, face complexities in identifying SBOs under current guidelines. Moreover, the framework lacks provisions for identifying overseas individuals holding control, emphasizing the need for cross-jurisdictional clarity.
In the United Kingdom, the PSC (Person with Significant Control) regime offers a more objective and transparent approach compared to India's subjective "significant influence" test. A PSC is defined as someone with more than 25% ownership, voting rights, or the ability to appoint/remove a majority of directors. This clarity provides greater certainty for companies by establishing clear thresholds and objective criteria for SBO identification. The US FinCEN framework employs a two-pronged approach, focusing on a 25% ownership threshold and "significant responsibility" for control. While similar to India's focus on control, the US offers more guidance. FinCEN regulations outline factors to consider when determining control, such as the right to appoint or remove senior management, the power to veto major corporate decisions, or the ability to direct the investment or voting of a significant portion of the company's shares. This additional guidance reduces ambiguity and simplifies the SBO identification process for companies. In the same way, Brazilian Federal Revenue's Normative Instruction adopts a combined approach. An individual qualifies as a SBO if they hold more than 25% of the company's capital or can exert "great influence" on corporate deliberations and have the power to appoint a majority of managers. This combination offers more objectivity compared to India's purely influence-based approach. The 25% ownership threshold provides a clear benchmark, while the "great influence" test is further explained to include the power to appoint key decision-makers.
The framework can benefit from a more objective definition of "significant influence or control," potentially incorporating factors like board appointment rights, voting rights on critical decisions, or control over key financial decisions. Implementing a risk-based approach could prioritize scrutiny for complex structures or companies in sensitive sectors, reducing the compliance burden for lower-risk subsidiaries. Providing clear guidance on identifying and communicating with SBOs residing outside India can streamline the process for MNC subsidiaries.
Conclusion
The MCA has recently tightened the SBO rules, particularly regarding the ambiguity of "significant influence or control," as highlighted in this case. MNCs must rethink their compliance strategies, focusing on directors, officers, funds, and contracts. India's SBO framework should implement objective criteria, such as ownership thresholds and voting rights, while adopting a risk-based approach to increase scrutiny for high-risk entities and reduce compliance burdens for low-risk subsidiaries. Balancing a regulatory environment that safeguards investments without deterring foreign investment is crucial for sustaining and growing India's economy in a globalized world.
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