Revisiting Put Options in Cross-Border M&A: Absence of Assured Returns a Critical Hindrance?

[Siddharth Sengupta & Tanay Dubey]

The authors are students of National Law University Odisha.



Over the past decade, the Indian Government has implemented a range of measures to attract foreign direct investment (FDI) into the country, resulting in a notable upsurge in FDI inflows from $24 billion in 2012 to $49.3 billion in 2022. A key factor behind such a dramatic increase in FDI in the last few years is the growing cross-border M&A activities.

In 2013, the Securities Exchange Board of India (SEBI) permitted the use of option agreements in M&A transactions. An ‘option’ clause within a Shareholder’s Agreement (SHA) is a provision that gives the parties a right to either purchase (in case of a call option) or sell (in case of a put option) shares at a pre-determined price, after a pre-determined period.

SEBI’s notification, which was applicable only to domestic transactions, was followed by an amendment to Foreign Exchange Management Regulations by the Reserve Bank of India (RBI), allowing foreign investors to include an optionality clause as an exit mechanism. The problem with the amendment was that in the case of the sale of securities via a put option, such an exit is without the component of “pre-determined rate” or ‘assured returns’, as per RBI’s amended Pricing Guidelines for FDI in India.

Despite the law being largely clear, a ruling by the Madras High Court in January of this year, in the case of GPE (India) Limited v. Twarit Consultancy, has reignited the contentious discussion surrounding the implementation of put options which ensure assured returns. Deviating from an established line of precedents set by the Apex Court and other High Courts, the court, in this judgment, allowed assured returns under a put option between the parties,

This article explores various aspects of cross-border M&A transactions and the use of put options as an exit mechanism. The article highlights the importance of assured returns during exits using put options and identifies the absence of them as a key hindrance in cross-border M&A transactions. Further, the article explores approaches that may be adopted as an alternative to put options in order to protect foreign investors under the current regulatory framework and the need for revision of pricing guidelines.

Understanding Cross-Border M&A Transactions and the Importance of Assured Returns

Cross-border M&A involves the integration of assets and operations from companies hailing from distinct jurisdictions. The term ‘acquisition’ pertains to the purchase of assets or stocks, either in whole or in part, of another company, thereby granting operational control over the whole or part of the said company; while the term ‘merger’ denotes the scenario wherein two independent companies are combined or consolidated into a single entity.

Due to the international nature of cross-border M&A, investors face some unique challenges especially while investing in an Indian company. Under the FDI Policy, for example, there are sectoral caps in place for the amount of foreign investment in certain industries. These sectoral caps can be changed by the Union Government very easily, which can compel investors to sell their shares at a loss. Further, especially in FDI, the investor may not be able to get reliable information about the seller for a variety of reasons such as market data being opaque or hard to get. This is particularly prevalent in angel investments and investments into Micro, Small, and Medium Enterprises (MSMEs). Abrupt changes in tax laws combined with the acute difficulty in enforcing contracts in India are further problems that make foreign investments in India challenging.

Incorporating put options in SHAs would typically offer a significant remedy to these issues by eliminating the uncertainty related to the ‘future value’ of shares in foreign investments. Regardless of whether the share prices experience significant fluctuations, the investment would remain secure. This approach proves particularly advantageous for investments in developing economies, where investors would be guaranteed a pre-determined amount upon exercising the put option at its expiration, even in the event of a sharp decline in share prices. However, the RBI’s prohibition on ‘assured returns’ clauses in foreign investments has resulted in the inability of put options to serve this purpose.

Globally, having a provision for assured returns in a put option is considered standard, as it is essential for effectively hedging risks in foreign investments, which is the primary purpose of having an option clause in the first place.

Regulatory Considerations and Legal Frameworks in India

In 1999, the Parliament, enacted the Foreign Exchange Management Act (FEMA) with the objective to facilitate external trade and payments and regulate the foreign exchange market in India. Gradually, restrictions vis-à-vis FDI were eased, resulting in a tremendous increase in the value of FDI each year.

In furtherance of the above-stated objectives, the Securities Exchange Board of India (SEBI), in 2013, allowed put & call options in M&A transactions. Subsequent to SEBI’s approval, the RBI through its circular and notification, allowed optionality in equity shares and compulsorily and mandatorily convertible preference shares/debentures to be issued to a person resident outside India with the objective to provide greater freedom and flexibility to the parties concerned under the FDI framework.

Foreign investors now had the choice to exit the investment after the one-year lock-in period by invoking the optionality clause, thus enabling the investee company to buy back securities. However, such an exit cannot be made at a pre-determined value i.e., without any assured returns. The investors are obliged to at the market price prevailing on the recognised stock exchanges (in the case of listed companies) or a price determined through internationally accepted pricing methodology (in the case of unlisted companies), thus, defeating the very purpose behind the revision of pricing guidelines. Interestingly, there is no such restriction placed in regulations relating to domestic investments. Thus, such restrictions as are placed under FEMA are redundant. Until the pricing guidelines are amended, it is imperative to explore alternative approaches to Assured Returns clauses in FDI transactions, to protect investor interest.

Alternative Approaches for Investors and Need for a Revision of Pricing Guidelines

The significance of assured returns cannot be understated for foreign investors in the volatile Indian securities market. However, as they are currently prohibited in foreign investments, there are alternatives approaches that can be utilized by an investor in order to minimize risks.

First, the investors may use ‘Downside Protection’ to escape restrictions laid down by RBI and minimize the risk and shield themselves from potential losses suffered due to their investment. Downside Protection involves methods and systems aimed at reducing potential investor losses stemming from their investments. This approach hinges on the eventuality of a detrimental occurrence impacting the investor’s interests and a subsequent claim for damages by the party incurring the loss.

Downside Protection can be employed as an alternative to Assured Returns by relying on contingencies such as a fall in share prices below a certain threshold, as may be outlined in the Shareholders’ Agreement (SHA). Such protection is in the form of compensation or damages. An assured returns clause, on the contrary, would depend on no such contingency.

The higher judiciary has also, in various judgments, recognized the concept of Downside Protection and found this distinction from put option provisions providing assured returns.

While incorporating a Downside Protection clause, parties have the option to employ representations and warranties insurance to mitigate risks. This insurance provides two types of coverage: Seller Side, safeguarding the seller from claims arising from breaches, and Buyer Side, compensating the buyer for alleged breaches by the seller. The ideal variation in transactions will include a Buyer Side policy that extends protection to the Seller, preventing pursuit by the insurance company (except for fraud) after paying the buyer for a breach. This approach not only protects the investor, it also minimizes the Seller’s exposure to claims by the investor.

And second, investors can utilize ‘earnout’ provisions to minimize their losses in case the share value drops below the investment amount. Incorporated within a contractual agreement, an earnout clause outlines that the seller of a business stands to receive additional remuneration at a later date, contingent upon the achievement of specific financial milestones. Typically, these objectives are expressed as a percentage of the total sales or earnings. Earnout provisions make the investment more investor-friendly, helping the investor recover any losses while exercising a put option.

However, it is imperative that exercise of the earnout provision by the investor be made strictly contingent on the occurrence of an event that would ordinarily cause losses to the investor. Otherwise, the seller would be compelled to repeatedly pay a percentage of earnings even if the investor’s exercise of the put option was profitable.

Even though the alternative approaches address the concerns of investors involved in FDI transactions to a certain extent, they fail to fully alleviate apprehensions regarding potential heavy losses. While earnout provisions may eventually recover the investor’s losses, they largely overlook the time factor associated with a put option. Time sensitivity is particularly critical in private equity and venture capital transactions, which form a large part of FDI in India. Therefore, it is essential for the RBI to revise its Pricing Guidelines and permit assured returns, thereby enhancing the appeal of FDI in India.


While alternative approaches such as ‘Downside Protection’ and ‘earnout’ provisions offer some relief, they still do not entirely eliminate concerns about possible losses and consequent litigation. Therefore, despite the reservations of the RBI, revising the Pricing Guidelines stands as one of the most effective approaches to significantly augment foreign investment and enhance the Ease of Doing Business in India.

Importantly, this revision would achieve these objectives without compromising the sectoral caps that play a crucial role in safeguarding indigenous startups and MSMEs. Furthermore, in the current state of our economy, which relies heavily on these businesses for employment and GDP growth, assured returns can ensure that in case of rapid growth of a company, most of the benefits are enjoyed by the indigenous investors.

Therefore, allowing assured returns in put options not only incentivizes and encourages more foreign investment but also contributes to the overall economic growth and prosperity of the country. By striking a balance between the interests of foreign investors and indigenous entrepreneurs, assured returns can foster an ecosystem that promotes entrepreneurship in India.


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