In recent years, scrutiny of Significant Beneficial Owners (SBOs) of Indian companies pursuant to the Companies Act, 2013 (CA 2013) has intensified. The concept of SBO, rooted in Financial Action Task Force (FATF) directives dating back to 1989, emphasizes maintaining accurate beneficial ownership records, as highlighted in its 2012 recommendations. India, a member of FATF since June 2010, adopted these guidelines to combat misuse of corporate entities for activities like tax evasion and money laundering. The Ministry of Corporate Affairs introduced the concept of ‘significant beneficial ownership' under CA 2013, requiring companies to identify and report individuals influencing corporate affairs and polices, regardless of direct or indirect ownership.
The enforcement of these regulations has become increasingly stringent over the years, as evidenced from the recent actions initiated by the Registrar of Companies (RoC) by penalising entities like LinkedIn Technology Information Private Limited (LinkedIn India) for failing to identify its SBOs and not making the necessary disclosures as required under the CA 2013. This article examines the legal framework of SBOs as applicable to Indian companies, recent ROC ruling, and their potential implications for Indian businesses.
Legal Framework
Section 90 of the CA 2013, in conjunction with the Companies (Significant Beneficial Owners) Rules, 2018 (SBO Rules), establishes two criteria for identifying the SBO of an Indian reporting company. The first criteria involves a quantitative assessment, evaluating an individual's status based on his/her percentage shareholding in the Indian company and across its ownership structure i.e., whether the individual in question indirectly (or together with direct holdings) holds not less than 10% (ten percent) of the shares/voting rights. The second criteria focuses on qualitative aspect, determining whether the person possesses or exercises 'significant influence' or 'control' in ways that extend beyond direct ownership.
CA 2013 read with the SBO Rules require individuals holding or acquiring significant beneficial interest to disclose this information to Indian companies. Further, the companies are also required to actively identify any SBO and ensure compliance with the provisions of the CA 2013 and the SBO Rules. Upon identifying or suspecting an individual to be an SBO, or to have had knowledge of an SBO within the past 3 (three) years, the company is required to notify the individual for disclosure. The individual is required to respond within 30 (thirty) days and failure to provide satisfactory information may lead the company to approach the National Company Law Tribunal to seek restrictions on share transfers or suspension of associated rights. CA 2013 also requires companies to maintain a register of such individuals who have made these disclosures and submit SBO returns to the RoC.
RoC's LinkedIn's Order
Recently in May 2024, the RoC for Delhi and Haryana issued an Adjudication Order against LinkedIn India pursuant to an adjudication proceeding initiated due to alleged inaccuracies in LinkedIn India's filings and its compliance with Sections 89 and 90 of the CA 2013. The RoC issued a show cause notice to LinkedIn India and relied on 3 (three) main factors to identify SBOs: (i) the nature of the relationship between LinkedIn India and holding companies (holding-subsidiary test), (ii) the nature of the reporting channels (reporting channel test), and (iii) the nature of financial control (financial control test) exercised over LinkedIn India.
LinkedIn India had disclosed LinkedIn Corporation, USA as its holding company in its financial statements, despite LinkedIn Corporation not having any upstream shareholding in LinkedIn India's ownership structure. Both LinkedIn Corporation and LinkedIn India are subsidiaries of the Microsoft Corporation. Accordingly, on the first holding-subsidiary test, RoC determined that for LinkedIn Corporation to be considered the holding company of LinkedIn India, it must have had the ability to control LinkedIn India's board of directors. The RoC highlighted that since several directors of LinkedIn India also hold positions at LinkedIn Corporation, they would logically come under the control of LinkedIn Corporation's CEO, Mr. Ryan Roslansky, particularly given the CEO's overarching authority. Furthermore, the RoC observed that following Microsoft Corporation's acquisition of LinkedIn Corporation, the LinkedIn Corporation's CEO would report to and be subject to the control by Microsoft Corporation's CEO, Mr. Satya Nadella.
On the second reporting channel test, the RoC noted that Microsoft Corporation's bylaws indicate that its CEO has general supervision over the Microsoft Corporation and the authority to assign duties to other officers. Given that a majority of LinkedIn India's directors are employees of either LinkedIn Corporation or Microsoft Corporation, directly or indirectly, the RoC concluded their reporting line ultimately leads to the CEO of Microsoft Corporation or LinkedIn Corporation. The RoC further reasoned that since LinkedIn India's directors did not receive remuneration and represent the interests of LinkedIn Corporation and/or Microsoft Corporation, they should be considered nominees of the latter companies.
On the third financial control test, the RoC also observed that LinkedIn India engaged in related party transactions on behalf of other group entities. The RoC referred to LinkedIn India's board resolutions, which affirmed that LinkedIn India will not supersede or replace any resolution adopted by the Board of Microsoft Corporation related to the authorities of the Microsoft Corporation's Chief Financial Officer or Treasurer to bind the Board of Microsoft Corporation. Consequently, the RoC concluded that the primary control over LinkedIn India's financial operations rested with Microsoft Corporation's personnel, overseen by its CEO, Mr. Satya Nadella.
The RoC based its findings primarily on Rule 2(1)(h)(iv) of the SBO Rules, which provides that an SBO includes an individual who has the right to exercise, or actually exercises, ‘significant influence' or ‘control', in any manner other than through direct holdings alone.
The term control has been defined under Section 2(27) of the CA 2013 to include “the right to appoint majority of the directors or to control the management or policy decisions exercisable by a person or persons acting individually or in concert, directly or indirectly, including by virtue of their shareholding or management rights or shareholders agreements or voting agreements or in any other manner.” The term significant influence has been defined under Rule 2(i) of the SBO Rules to mean “the power to participate, directly or indirectly, in the financial and operating policy decisions of the reporting company but is not control or joint control of those policies.”
Therefore, for Mr. Nadella and Mr. Roslansky to be designated as SBOs, it would need to be established that they independently wielded authority over the appointment of directors or controlled the management and policy decisions of LinkedIn India, either directly or indirectly through shareholding, management rights, or other agreements. Interestingly in this case, neither Mr. Nadella nor Mr. Roslansky held majority shares in LinkedIn India nor exercised specific rights through contractual arrangements with the company. As neither Mr. Nadella nor Mr. Rolansky held shares in LinkedIn India, it was argued by LinkedIn India that they lacked the authority to influence its daily operations or financial policies. Any such influence would require approval from LinkedIn India's board of directors directly.
It was also highlighted by the company that the CEOs of Microsoft Corporation and LinkedIn Corporation are employees, not owners of these companies. They serve at the pleasure of their boards, lacking ownership stakes, and are subject to the boards' governance and supervision. Accordingly, they cannot be determined as the ultimate individuals exerting 'control' or 'significant influence' over their Indian subsidiaries.
RoC disagreed with the company's arguments and identified Mr. Satya Nadella (CEO of Microsoft Corporation) and Mr. Ryan Roslansky (CEO of LinkedIn Corporation) as 'significant beneficial owners' and imposed penalties on them for violating Section 90(1) of the CA 2013 as also on LinkedIn India for its failure to take effective steps to identify the SBO in relation to the company.
Conclusion
The LinkedIn order is of substantial importance for Indian companies having ultimate holding companies outside of India. The wide interpretation adopted by the RoC in this instance appears to focus less on identifying those who truly benefit from or owning shares beyond the direct shareholders of a company. RoC disregard of the fact that the CEOs were simply employees governed by their respective employment contracts and whose employments can be terminated anytime by the employer companies shows the extent to which RoC was intent to liberally interpret the statutory requirements. RoC's wide interpretation (as shown in the LinkedIn Order) could set a pattern for future scrutiny of CEOs and higher management employees of foreign holding/group companies, potentially undermining the corporate structure's integrity and compliance requirements. This situation could pose obstacles to the ease of doing business policy being promoted by the Government of India.
Moreover, the RoC's reliance on foreign CEOs' visits to India, foreign publications, general corporate bylaws and interpretation of even foreign corporate laws (instead of adhering to a specific Indian legal framework for the 'control' or 'significant influence' test) may lead to misinterpretations.
In view of the RoC's liberal interpretation to the legal framework, Indian companies face a compelling need to reassess their operational structures and compliance with SBO provisions. The companies will need to dive deeper on their board composition, reporting structures, contractual arrangements, delegation of authority, decision-making processes and enhance report keeping and reporting to ensure transparency and proper disclosures in tandem with the RoC expectations.
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