What Cannot be Done Directly Cannot be Done Indirectly: Assignment of Participating Interests

In the last post, we had noted the principle what cannot be done directly cannot be done indirectly. In this post we explain the applicability of this principle in respect of assignment of participating interests in a production sharing contract in the light of the recent case of Canoro Resources Ltd. V. Union of India.

Canoro Resources Ltd. (Canoro), Assam Company Limited (ACL) and Joshi Technologies International (Joshi) were successful bidders for developing the Amguri Oil Field. Canoro held 60% of the participating interests in the Field and was the operator for the Field. (An operator is one who performs the actual activities of exploration/ development in the Block/ Field. An operating committee is formed consisting of all the contractor parties. The operating committee takes all the important decisions pertaining to the operations in the Block/ Field.)

The PSC in respect of Canoro was terminated by the Government of India for the reason that Canoro breached the provisions pertaining to assignment of participating interests.

Canoro entered into an Investment Agreement (IA) with MASS Financial Corporation (MASS). Some terms of the IA as provided in the judgement are as follows: 

• MASS agreed to make a private placement for 24,798,000 common shares and also to apply against the rights offering made by the [Canoro], equal to the total rights offering commitment, less the number of common shares purchased by the holders of rights pursuant to the exercise of rights under the rights offering.
• The petitioner agreed with MASS that the funds infused by MASS would be utilized at least to the extent of US$1,500,000/- to meet the expenditures relating to the Amguri condensate recovery and gas re-injection project.
• The balance of the proceeds from the equity financing were agreed to be used for working capital and in conjunction with the exploration and development of its oil and gas projects, such projects.
• On the private placement being made by MASS, the [Canoro] agreed to appoint two nominee directors of MASS on its Board of Directors.
• The Board of Directors shall be comprised of no more than five persons, and the said Board shall reflect the percentage of shareholding of MASS.
• After the private placement closing, the name of the petitioner was agreed to be changed to one approved by MASS.

During this investment process, Canoro informed the Government of India the private placement undertaken through the IA was not a material change in the status of the company. Further, Canoro stated that MASS did not control Canoro. Canoro also informed that it would conduct a rights offering and in case the rights holders did not subscribe, the same would be offered to MASS.

The Government issued a show cause notice as to why the PSC should not be terminated due to the fact that Canoro did not seek consent of the Government. During the course of exchange correspondences in regard to the show cause notice, Canoro contended that the shareholding of MASS became 53%. Not satisfied by the replies of Canoro, the Government terminated the PSC.

Canoro applied to the Delhi High Court under Section 9 of the Arbitration and Conciliation Act, 1996 to stay the termination of the PSC.

 Relevant Contractual Provisions: 

“29.1 Subject to the terms of this Article and other terms of this Contract, any Party comprising the Contractor may assign, or transfer, a part or all of its Participating Interest, with the prior written consent of the Government, which consent shall not be unreasonably withheld, provided that the Government is satisfied that:

(a) the prospective assignee or transferee is of good standing, has the capacity and ability to meet its obligations hereunder, and is willing to provide an unconditional undertaking to the Government to assume its Participating Interest share of obligations and to provide guarantees in respect thereof as provided in the Contract;

(b) the prospective assignee or transferee is not a company incorporated in a country with which the Government, for policy reasons, has restricted trade or business;

(c) the prospective assignor or transferor and assignee or transferee respectively are willing to comply with any reasonable conditions of the Government as may be necessary in the circumstances with a view to ensuring performance under the Contract; and

(d) the assignment or transfer will not adversely affect the performance or obligations under this Contract or be contrary to the interests of India. 29.2 In case of any material change in the status of Companies or their shareholding or the relationship with any guarantor of the Companies, the Company(ies) shall seek the consent of the Government for assigning the Participating Interest under the changed circumstances.”

"35.1 The parties comprising the contractor shall notify the Government of any material change in their status, shareholding or relationship of that of any guarantor of the companies, in particular, where such change would impact on performance of obligations under this contract."

Contentions of the Parties:

Petitioner:

• Canoro had the right under the PSC to allot 53% shareholding to MASS.
• Article 29.1 pertains to only assignment of participating interest. In this case there is no assignment of participating interest
• Article 29.2 is only applicable when there is a material change in the status of the company and when there is a change in the control would permission from the government be necessary.
• Article 29.1 uses the term “prior written consent”. This is absent in Article 29.2 which uses the term “consent of the Government”.
• Even direct assignment of participating interests cannot be unreasonably withheld as stated in Article 29.1
• MASS satisfies the conditions mentioned in 29.1(a) to (d)
• Induction of shares of MASS would not affect the performance of the obligations under the PSC.
• If Article 29 is read with Article 35, the result would be that the prior consent of the government is not necessary for change in shareholding.
• It was only after the show cause notice by the Government that the shareholding of MASS rose to 53%.
• The right of the Government to terminate the PSC is only regards the breach of Article 29.1 and not 29.2. Therefore PSC cannot be terminated without any cause.
• As per Article 31.6, the PSC cannot be terminated during the pendency of arbitration. Since the notice invoking arbitration was sent to the Government preceding the termination notice, the government has no right to terminate the contract
• Canoro stated that in view of the above absence of right of the government to terminate the PSC, there was a prima facie case. Further it was impossible to ascertain the damages in terms of money.

Respondent:

• What cannot be done directly cannot be done indirectly. If prior written consent is required for assignment of participating interests, prior consent would also be required in case of indirect transfer of participating interests.
• Article 29.2 read with the next two sub-clauses conveys the meaning that prior written consent is required in case of change of control of the company as per Article 29.2
• Article 29.3 requires the Contractor to submit the details of the “proposed” assignment or transfer.
• Article 29.5 states that no assignment or transfer would be effective until the approval of the Government is granted.
• Article 31.(e) refers to any interest in the contract and not merely participating interest
• Article 29.2 is breach not by an open market share issue but by private placement.
• The IA refers to all kinds of interests owned by Canoro including participating interests.
• This is a suitable case for lifting of the corporate veil.
• In the national interest, injunction should not be granted due to the reasons stated in the Reliance case.
• Even if the termination is held invalid, the petitioner can be compensated adequately by money
• Invocation of arbitration is invalid as attempts to amicable settlement is a condition precedent.

The decision of the Delhi High Court would be analysed in the next post.