The Indian government stands accused of hurting the interests of a minority shareholder. How serious are TCI’s allegations against Coal India and the government?

In October 2010, The Children’s Investment Fund (TCI), a UK-based hedge fund, bought a 1.01% equity stake in Coal India in its initial public offering. In doing so, TCI became the second-largest shareholder in the company, which until then had been entirely owned by the government.

Coal India, which has a current market capitalization of US$41 billion and is one of the world’s largest coal-producing companies, had offered 10% of its equity to the public in the IPO. Investors remained optimistic about the company despite a long list of 70 risk factors – some of which could potentially impact the interests of minority shareholders – detailed in the 510-page prospectus.

Full disclosure

Risk factor number 17 plainly said:We sell our coal at prices lower than the prices otherwise in the Indian and international coal markets.” Explaining this, the prospectus stated that Coal India “generally consult with the government of India in determining the price of our coal”.

In addition, risk factor number 55 warned: “The interests of the government of India as our controlling shareholder may conflict with your interests as a shareholder.” It explained that under a memorandum of understanding signed with the Ministry of Coal and Coal India’s articles of association, as long as the company remains government owned, “the President of India may issue directives with respect to the conduct of our business or our affairs”.

It further explained that the government of India “exercises substantial control over the growth of the power industry in India which is dependent on the coal we produce and could require us to take actions designed to serve the public interest and not necessarily to maximize our profits”.

Despite these warnings the IPO was 15 times oversubscribed.

Trouble on the horizon

However, when conflicts between Coal India and India’s power producers escalated early this year, it was not long before TCI began to express concerns over the way the company conducted its business.

Two-thirds of power generated in India is coal based and Coal India, which is free to set its own prices, supplies 82 of the 86 coal-based thermal power plants.

On 18 January, a group of private power producers the Association of Power Producers met the prime minister, Manmohan Singh, to ask for certainty in supplies of coal, which they saw as their most important and immediate problem.

The power producers complained that Coal India – with which they used to have fuel supply agreements – was ready to supply only 50% of their requirements. As a result no such agreements had been signed since April 2009.

The power producers needed these agreements not only to ensure a reliable supply of coal, but also to obtain clearances and loans for setting up new plants.

With no viable alternative to coal-fired thermal power plants, and the country grappling with crippling power shortages, the government acted swiftly.

Government action

On 25 January, the secretary of the Ministry of Coal, Alok Perti, wrote to the chairman of Coal India pointing out that “there are many complaints received … pertaining to unreasonable price increase” by Coal India with effect from 1 January 2012. Perti’s letter went on to ask the company to “review/revise” the price notification by the end of January.

TCI obtained a copy of the letter using the Right to Information Act, 2005, and made the letter public on, a website created by TCI to initiate discussion on the “key issues related to the Indian coal mining industry”.

On 31 January, Coal India issued a notification revising the price of coal. Then on 15 February, the prime minister’s office announced that the company had agreed to sign fuel supply agreements with the power plants to ensure their full requirements of coal are met for the next 20 years.

The prime minister’s office added that if Coal India’s production fell short and it could not fulfil its commitments to the power plants, the company would supply the coal through imports or through arrangements with other central or state public-sector companies in the business.

Agreements for power plants commissioned up to 31 December 2011 were to be signed by 31 March 2012.

Challenging the government

TCI saw the intervention by the government as detrimental to shareholder interests and those of the public at large.

In a letter dated 12 March to Coal India’s board, Oscar Veldhuijzen, a TCI partner, said the Indian government “has no legal right to directly instruct the [Coal India] Board in this manner” as it is only one among several shareholders.

In the same letter, which can be seen on, Veldhuijzen also alleged that members of the board had “simply implemented the Government’s instructions without any debate, question or challenge, in breach of their fiduciary duty”.

The letter went on to say that TCI was “strongly considering taking legal action” against board members for breach of their fiduciary duties. Alleging that the actions of Coal India and individual board members were “reckless and lacking integrity”, the letter said TCI “will hold each Member personally liable”.

Legal avenues and action

Promod Nair, a Bangalore-based partner at J Sagar Associates who specializes in commercial and public law litigation and arbitration, believes TCI had three options to follow up on its letter to Coal India’s board.

Treaty benefits: TCI’s crusade for shareholder rights was undertaken using treaties between India and Cyprus and India and the UK.
Treaty benefits: TCI’s crusade for shareholder rights was undertaken using treaties between India and Cyprus and India and the UK.

First, it could have approached the Company Law Board – a quasi-judicial body that rules on company law matters – with complaints about alleged mismanagement. But this would have needed the support of the holders of at least 10% of Coal India’s share capital, which is the entire privately held shareholding of the company.

Second, TCI could have filed a derivative action in the courts against Coal India’s board of directors, claiming that the board was not acting in the best interest of the company. However, Nair believes this would have been “a fairly burdensome proceeding” as a derivative action is a common law remedy and there is not much precedent for such actions under Indian law.

Instead, TCI began its crusade for shareholder rights by choosing the third option. On 27 March, it issued notification of its claims against the government under article 9 of an agreement for mutual promotion and protection of investments between India and Cyprus, and under a promotion and protection of investments treaty between India and the UK.

Listing how the treaties in question had been contravened, TCI asked the government to enter into formal negotiations aimed at reaching an amicable settlement of its claims – failing which it reserved the right to initiate arbitration against the government.

TCI had invested in Coal India through a Cyprus-registered company, TCI Cyprus Holding, and a company registered in Ireland, Talos Capital, which it says is a UK company for the purposes of the India-UK investment treaty as TCI owns the entire share capital of Talos.

Then, in a statement issued on 1 April, TCI said that it had also instructed its Indian lawyers, Luthra & Luthra, to initiate legal action against Coal India and its directors. TCI alleged that the company’s “affairs are being run in a manner that is both prejudicial to the public interest and oppressive to shareholders”.

The statement quoted Veldhuijzen as saying: “Every attempt we have made to improve governance at Coal India and to help Coal India realize its value has been met with cynical indifference at best and obstruction at worst.” TCI stated: “Legally, it is for the Board of Coal India and, ultimately, the courts to determine what the public benefit is, not the government.”

Luthra & Luthra declined to speak to India Business Law Journal about the matter.

Resistance from independent directors

Meanwhile, after receiving TCI’s letter to Coal India’s board members, independent directors decided to oppose the government directive to sign fuel supply agreements. As a result no such agreements were signed by the 31 March deadline fixed by the prime minister’s office.

This public defiance of the government was in keeping with Coal India’s earlier reluctance to sign fuel supply agreements as “in spite of best efforts” it could not “satiate growing coal demand”. The company has been expecting a shortage of 350 million tonnes of coal by 2016-17.

The government did not back off. On 3 April, it issued a presidential directive to Coal India to sign fuel supply agreements. However, this time the government did not insist on Coal India meeting the full requirement of the power producers, but asked for assurance of at least 80% of committed delivery.

The change gave the stock markets reason to cheer and Coal India’s share price rose 0.65% by the end of trading on 3 April.

Defending the government’s tough stance, the minister for coal, Sriprakash Jaiswal, told the Press Trust of India: “Our government is committed to follow a socialist path … if someone had bought the Coal India shares thinking the company will run the way they want or the way the market wants, it is not possible.”

A weak case?

Although TCI is no stranger to such battles, observers are divided about its prospects.

“TCI is a very activist shareholder but this case is perhaps an attempt to overkill,” says Shardul Shroff, managing partner of Amarchand Mangaldas. “This is one of those battles that you don’t fight.”

Shardul Shroff Managing Partner Amarchand Mangaldas

Shroff insists that TCI does not have a case as companies such as Coal India, which are effectively subsidiaries of the government, are bound to obey government directives.

Homi Phiroze Ranina, a Supreme Court advocate and frequent commentator on such issues, also believes “there is no ground for TCI to start legal proceedings as it accepted the reality of government intervention in Coal India beforehand”. According to him, the government could also argue that its actions are to protect the interest of the millions of electricity consumers.

Homi Phiroze Ranina Advocate Supreme Court

However, Nair at J Sagar Associates disagrees. He says “there is a good case to complain about breaches of principles of corporate governance” – principles which compete with the advance warning in the prospectus about government intervention.

Promod Nair Partner J Sagar Associates

Nair says that TCI also could question the legal basis on which the government issues ad hoc directives to Coal India. “Unless there is a concrete legal framework that permits such action, such governmental interference could be termed illegal.”

Other observers say it is not easy to form an opinion. “One can argue both ways and you don’t know who has won,” says Richard Rekhy, head of advisory at KPMG in New Delhi.

According to Rekhy, ideally once the government lists a company it should not interfere in its day-to-day affairs.

Minority rights

The case has drawn attention to corporate governance standards in Indian companies.

“Minority shareholders fighting for their rights and independent directors doing their job—that’s an awesome combination, unheard of in India, which is why the result of this battle will be keenly watched,” said a recent editorial in the Financial Express.

The case is also being keenly followed at the Investor Grievances Forum, a Mumbai-based organization that works for the protection of minority investors’ rights.

“The case will make a big difference to the cause of minority shareholders and TCI should take it to its logical conclusion,” says Vipul Mody, vice-president of the forum, which each year receives hundreds of complaints from minority shareholders against promoters who flout corporate governance rules.

Vipul Mody Vice-President Investor Grievances Forum

Irrespective of the disclosures made in the prospectus of Coal India, Mody says that the government should not have sold shares in the company if its intention was to go against the interests of the investors.

A profitable company

But the TCI-Coal India dispute is more than a straightforward tussle between majority and minority interests.

“Usually when majority shareholders work against the interest of the minority, the companies go into losses or at least provide below the market rate of returns,” says Sanjay Bakshi, CEO of Tactica Capital Management and a visiting professor at the Management Development Institute, Gurgaon. “In this case, even after selling coal at 70% below the market price, Coal India is still the world’s most profitable coal company.”

Sanjay Bakshi CEO Tactica Capital Management

Bakshi says that over the past seven years, the company’s coal mining business has delivered pre-tax operating cash flows totalling US$18 billion while employing operating assets on an average of just US$4 billion per year. “This translates into a stunning performance with pre-tax average annual returns of 62% on capital employed,” says Bakshi.

In addition, Coal India, which was set up in 1975 after the nationalization of private coal mines, carries very little debt and holds cash reserves in excess of US$10 billion.

However, these impressive figures are not necessarily due to good management, as the main reason for Coal India’s remarkable profitability is its dominant position in the sector.

“If Coal India was required to pay market prices for these rights, it could well be into losses,” says Bakshi. “So TCI must not complain without being willing to sacrifice the profits enjoyed by the very same government interference.”

“The government gives Coal India from one hand and takes away from the other,” says Sandeep Parekh of Mumbai-based Finsec Law Advisors. Parekh, a former executive director of the Securities and Exchange Board of India, believes the situation would be much less complicated if the government demanded proper royalties from Coal India and gave direct subsidies to the power producers, if required.

Sandeep Parekh Founder Finsec Law Advisors

Compared to Coal India minority shareholders, those at public-sector petroleum companies such as Hindustan Petroleum and Indian Oil are much worse off as these companies are required to subsidize petrol and diesel produced from imported crude oil.

“It would make much more sense if somebody makes an activism case there,” says Bakshi, adding that the “the government is genuinely hurting those companies”.

Future disinvestments

The government’s plans for future divestments could suffer if private investors shy away because publicly listed companies are run according to socialist principles. Some people think that TCI’s legal action is an attempt to generate publicity that could compel the government to settle with it to avoid the risk of India being seen as investor-unfriendly.

Indeed, in a 15 March letter to the Ministry of Coal, Veldhuijzen says: “If this abuse of minority shareholders is not ceased immediately, India’s current perception as a country that is a bad place for foreigners and domestic investors to invest due to relentless government interference and regulation will be cemented into reality.”

TCI appears to have planned its strategy carefully as in the financial year 2012-13, the government aims to raise US$8 billion through disinvestment in other public-sector companies.

“If the government does not maintain highest corporate governance standards, the valuation of the other disinvestment projects will get negatively impacted,” says Parekh.

This dispute also suggests that more careful disclosures may be necessary before the government embarks on any future disinvestments. “Some rules have to be changed or more precautionary measures have to be taken by the government as well as the investors,” says Rekhy.

Richard Rekhy Head of Advisory KPMG

Arbitral tribunals

India’s bilateral investment treaties with UK and Cyprus require the parties to seek a settlement before an arbitration panel is constituted. But if the dispute reaches arbitration, the choice of arbitrators will be vital.

“Some arbitrators are known to be pro-investor, while some are pro-state,” says Nair. “Its constitution would likely have a huge bearing on how this dispute is finally settled.”

If the arbitral tribunal concludes that TCI’s shareholding has diminished in value as a result of government’s intervention in Coal India, then TCI could be awarded compensation. One measure of damages could be the difference between the current value of Coal India’s shares and their possible value if no intervention had occurred.

Nair says that even if TCI succeeds, it is unlikely that the tribunal would ask the Indian government not to interfere in the activity of Coal India or tell the company to behave in a particular manner. “In international law, tribunals and courts are extremely reluctant to ask governments to function in a particular way,” he says.

However, Parekh believes that there is no telling what remedies would be granted as the treaties are still untested. “Anyway, it could take several years before the final verdict is announced,” he says.

Parekh says the best solution would be a properly functioning coal market: “If competition is introduced, a lot more coal will come out and the government could also do away with all the financial jugglery it is currently engaged in.” (For more on Coal India’s pricing policies, see our correspondents’ views on page 50)