SOHAIL SARFRAZ

ISLAMABAD: The Securities and Exchange Commission of Pakistan (SECP) has observed that the Board of Directors of companies has been empowered by virtue of section 86 of the Companies Ordinance 1984 to issue right shares.

An order issued by the SECP in the matter of a rayon mill revealed that the Companies Ordinance also provides the responsibility of the directors of a company to prepare and present true and fair view of the affairs of the company before the shareholders. SECP would also emphasize that investors rely on representation of Board of Director and look for clarity, information and viability in all company reports and information. For an investor, letter of right and Circular under Section 86(3) of the Ordinance are the primary document providing glimpse of the proposed scheme of right and for availing the right issue announced by Board. The directors did not perform their responsibilities diligently and subsequently failed to grasp the gravity of issue by omitting material fact directly related to the subject right issue. However, keeping in view the fact that subsequently the stock exchange was informed regarding its intention to convert liability of directors into shares, receipt and conversion of loan from directors was disclosed in their respective accounts, the SECP hereby concluded the proceedings with a stem warning to the respondents (board of directions of company) to be careful in future and ensure compliance of law in its true letter and spirit.

The order has disposed off the proceedings pertaining to contravention of the provisions of Section 492 read with Section 476 of the Companies Ordinance, 1984 (“the Ordinance”), which has arisen out of the aforementioned show cause notice served on the Board of Directors (also referred as “respondents”) of the company.

Keeping in view the facts enumerated above, a show cause notice under Section 492 read with Section 476 of the Ordinance dated December 31, 2015 was issued to the Board of Directors, advising them to show cause within 14 days of the date of the notice as why penal action may not be taken against them for failing to disclose material information to the shareholders for making informed decision regarding the said right issue.

Generally, information is considered to be material if there is a substantial likelihood that information would be considered important or significant by a reasonable investor. Materiality has been defined by the United States Supreme Court as “a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the ‘total mix’ of information made available.” Whether the investor changes the decision based on disclosure of material information is ancillary and at the discretion of investor only. Companies need to understand that information disclosure is not just a legal game and defining all scenarios of information to be material through law is not possible. Efforts are consistently being made by Commission to encourage and in some cases mandate disclosure of certain information through laws I regulations and underlying formats. All these efforts are aimed at facilitating investors. Hence it is also important for companies that the perspective of investor must also be considered for determining extent of disclosure. Needless to say that failure to disclose important information on a timely basis can also harm a company’s reputation.

At the outset, it is unambiguous that conversion of directors’ loan was directly impacting right issue hence cannot be ignored as trivial issue or immaterial information. Although express provision requiring disclosure of conversion of loan against liability of directors is not provided in Ordinance or formats of letter of right or Circular under Section 86 (3) of the Ordinance. However, for an investor, receiving the letter of right and said circular, stating acceptance mode solely through payment to bankers to the issue and expressing stating nil against material disclosures impacting right issue implied fresh injection of funds. There was no information that could draw attention of investor towards the intent of Board of Directors to convert their loan against the right offer. The disclosure is even more vital as the directors were direct beneficiary of the subject transaction. As for unlimited power of directors under Section 86(7) of the Ordinance, the same would have been valid had the Company disclosed its intention to convert directors’ liability and then exercised its powers under Section 86 (7) of the Ordinance, that too, for allocating unsubscribed portion of right issue. Omitting a material fact and then finding refuge in exercise of powers under Section 86 (7) is flawed application of law.

The company had informed its intention to convert liability of directors against right issue hence mala fide intention of the respondents was apparently not demonstrated. The fact however remains that the transaction of conversion of directors’ liability against right shares was directly impacting the right issue and was material information mandating disclosure, the SECP order added.