Concept of beneficial ownership in the Companies Bill 2016 - II

Concept of lifting the veil If the situations of a natural person are read with that of a non-natural person then a practical proposition will emerge. Under this proposition, if Mr X, a shareholder, in a company hereinafter referred to as Company A, and the question under consideration is determination of beneficial ownership of Company B and Company C. If it is treated that Company B owns 100 percent of Company C and Company A owns 70 percent of Company B. As per this proposition, which is the only implementable solution, the natural person Mr X who is the owner of A cannot be treated as beneficial owner of Company C. Any other proposition is practically non-implementable. There is another logical reason for the same as Company C is under regulation of the corporate laws of Pakistan; therefore, its beneficial ownership can be ascertained independently by domestic corporate regulators. Furthermore, it is important to note that the term 'non-natural person' has specially been segregated and used as it incorporates all body corporates, including trust.
If the aforesaid concept is now related to the concept of 'control' as used in the UK, then it transpires that the matter is not as simple as it appears. Determination of right to exercise control as referred to in the UK laws may appear to be simple in theory but practical issues arise that have been identified in the following illustration. In this illustration, two approaches for determination of beneficial control have been identified, where natural and non-natural persons are involved:
GRAPH Pakistan like most other jurisdictions has adopted a 'Top-Down' approach
To reiterate the issue, provisions relating to beneficial ownership have no direct relationship with the corporate law. These provisions are essentially placed to avoid insider trading. Accordingly, it would have to be seriously taken into account why Section 2(7) has been placed in the corporate law and whether the same status will be carried after the introduction of the 'Benami Act'.
Difference in the concept as laid down in the Act and the Bill Now we come to the newly inserted provision in Section 2(7) of the Bill, the inserted definition is replica of the one contained in Section 101 of the Act except that in place of the word 'private company' all companies have been included.
"(7) "beneficial ownership of shareholders or officer of a company" means ownership of securities beneficially owned, held or controlled by any officer or substantial shareholder directly or indirectly, either by;
(a) him or her;
(b) the wife or husband of an officer of a company, not being herself or himself an officer of the company;
(c) the minor son or daughter of an officer where "son" includes stepson and "daughter" includes stepdaughter; and "minor" means a person under the age of 18 years;
(d) in case of a company, where such officer or substantial shareholder is a shareholder, but to the extent of his proportionate shareholding in the company.
Provided that "control" in relation to securities means the power to exercise a controlling influence over the voting power attached thereto:
Provided further that in case the substantial shareholder is a non-natural person, only those securities will be treated beneficially owned by it; which are held in its name.
Explanation; For the purpose of this Ordinance "substantial shareholder", in relation to a company, means a person who has an interest in shares of a company-
(a) the nominal value of which is equal to or more than 10 percent of the issued share capital of the company; or
(b) which enables a person to exercise or control the exercise of 10 percent or more of the voting power at a general meeting of the company."
In the Bill, the word 'company' has been used in place of private company under the Securities Act. It is so as the word 'company' shall include non-private companies and foreign companies as well.
Provisions contained in Section 2(7) of the Bill and 101 of the Act read with international and the UK practices reveal that Pakistan has essentially adopted a 'top down' approach for the determination of beneficial interest/ownership/control and non-natural person concept has been fully incorporated.
Reporting requirement proposed to be introduced In the bill, a new provision has been introduced by way of Section 452. It states as under:
"452. Companies' Global Register of Beneficial Ownership.- (1) Every substantial shareholder or officer of a company incorporated under this Ordinance, having 10 percent or more shares in a foreign company or body corporate shall report to the company regarding his beneficial ownership or any other percentage or interest as may be notified by the Commission, on a specified form within thirty days of holding such position or interest.
(2) The company shall submit all the aforesaid information received by it during the year to the registrar along with the annual return.
(3) Any investment in securities or other interest as may be notified in sub-section (1) by a company incorporated under this Ordinance, in a foreign company or body corporate, shall also be reported to the registrar along with the annual return.
(4) All the above information shall be reported to the registrar through a special return on a specified form within sixty days from the commencement of this Ordinance and thereafter in accordance with the sub-section (2).
(5) Any contravention or default in complying with requirements of this section shall be an offence liable to a fine of level 1 on the standard scale.
(6) The Commission shall keep record of the information in a Companies' Global Register of Beneficial Ownership."
This concept is conceptually an adoption of the UK's requirement introduced in 2016 relating to 'Register of People with Significant Control'. The English commentary on such regulations stated:
"On 21st April 2014, the government published its response to an original discussion paper from July 2013 "Transparency & Trust: Enhancing the transparency of UK company ownership and increasing trust in UK business." In this response, the Government confirmed that it intends to proceed with the majority of the proposals in that paper, the most interesting of which relate to the proposal to put in place a public register of beneficial interests in the UK companies, and to impose mandatory obligations on the UK companies and beneficial owners to disclose any such interests. This is a relatively radical change to current English law where, although there are fairly full disclosure obligations in relation to directors and legal shareholders (ie, those whose names appear on the company's register of shareholders), the beneficial holders of shares are largely ignored. These changes will therefore affect anyone who directly or indirectly owns, is entitled to or controls more than 25% of shares in a UK company.
The background to the proposals is the government's desire to enhance transparency and accountability for business in the UK, with the intention of improving corporate governance and therefore trust. The intention is to promote UK business but also to tackle what the Government perceives as the use of companies for criminal purposes, including money laundering, tax evasion and corruption."
This concept clarifies the position that domestic corporate law is limited to the beneficial ownership of the Pakistani company. The veil of jurisdiction is not required to be lifted.
The section under the present text means that a director/officer or substantial shareholder in a Pakistani company will report to the Commission his beneficial ownership in any foreign company. This section is in essence completely different from the provisions contained in Section 101 of the Securities Act, 2015 and the English regulations. It appears that this section intends to identify the foreign beneficial shareholdings of directors, officers and substantial shareholders of a Pakistani company. This intention in my view is related to fiscal matter and should not be included in the corporate law. There can be an omission in comprehensive application of corporate law on that matter. As a result, the legal validity of this provision needs to be examined separately as the same has no relation with domestic corporate law. Furthermore, as also stated above, this is also different from the UK concept from where the concept has apparently and originally been adopted. In the UK, the information is being sought and rightly so is in relation to the UK company.
Corporate regulators should only be interested in the foreign beneficial ownership of the Pakistani company. There appears to be no basis to identify through the operation of corporate law to know the ownership of foreign company, being outside the Pakistani companies law's jurisdiction where a Pakistani director, officer or substantial shareholder may have a beneficial interest.
Since the term beneficial ownership has been defined in Section 2(7) of the Bill therefore, this term will be applied in the sense as explained in the earlier paragraph. Accordingly, if the ownership in a Pakistani company is through a non-natural person then the scope is limited to the first-tier corporate or trust entity. In other words, a 'Top-Down' approach will be applicable.
The fundamental question that arises in this case is the objective of introduction of this requirement and the results corporate regulators intend to achieve from this section. It is clear that the objective is not to curtail insider trading which is the objective of Section 101 of the Securities Act, 2015. The purpose is to identify the foreign assets of directors, officers or substantial shareholder, which is ultra vires under the corporate regulations. Since that objective has nothing to do with that particular company therefore constitutional validity of the said section cannot be challenged on the ground that this information is beyond the provision relating to a particular company. If the objective is to identify the beneficial ownership in that particular company, which appears to be a correct approach then certain legal validity can be established. In this situation the suggested draft should be as under:
"452. Companies' Global Register of Beneficial Ownership.- (1) Every substantial shareholder or officer of a company incorporated under this Ordinance, having ten percent or more shares in that company shall report to the company regarding his beneficial ownership though held through foreign relationship or any other percentage or interest as may be notified by the Commission, on a specified form within thirty days of holding such position or interest." This concept has been illustrated as under:
The effect of this amendment will be to identify the beneficial ownership of that company by a director, officer or substantial shareholder even though held through any foreign relationship. Accordingly, every director, officer or substantial shareholder will disclose the ownership of that company if held by a foreigner.
Suggestion for Correction and Amendments Discussion in the aforesaid paragraphs may be summarised as under:
1. Concept of 'beneficial ownership' is and should be limited to the matter of 'insider trading' as is contained in Section 101 of the Securities Act, 2015 or identifying the foreign beneficial ownership of that 'domestic company';
2. In determining the 'beneficial interest' corporate veil has been recognised and in case of interest held through a non-natural person interest of a natural person in the first tier entity can only be the determining factor;
3. The Benami Act, 2017, as recently passed by the Parliament, will have to be duly incorporated in the corporate law and Section 121 of the Bill relating to non-recognition of trust has to be appropriately settled;
4. The concept of Global Shareholding, as prescribed, will have to be examined for legal and constitutional validity;
5. There has to be appropriate amendment in Section 452 of the Bill to make the same meaningful and its objective is to identify beneficial ownership held through foreign relationships.
In short, the concept of beneficial ownership is a tertiary regime for the corporate law purposes and it should be limited to insider trading, anti-money laundering and benami transactions reporting only. Any other requirement or prescription may be legally challenged and will create problems in practical implementation for businesspersons. The corporate law should remain a law facilitating the growth of businesses instead of being a burden leading to unnecessary regulatory requirements, especially in economies, such as ours, which are in the phase of transition towards organised documented sector.
(Concluded)