Procedural and Conceptual Impact of RPT Industry Standards - MMJC

Background:
The Industry Standards on “Minimum information to be provided for Review of the Audit Committee and Shareholdersfor Approval of a Related Party Transaction (RPT)” (‘RPT Industry Standards‘) released by SEBI vide its circulardated February 14, 2025 revamps the minimum information required to be placed before the audit committee andshareholders, wherever required, for approval of a Related Party Transaction (‘RPT‘). It has not only standardized thedata requirement but has pushed the management for providing enhanced information to the Audit Committee forapproval of RPT so that they can take informed decisions and record the rationale behind critical RPTs.

Introduction:
RPT provisions usually revolve around entities where Director or promoters of the Company or Company is concernedor interested viz. subsidiaries. With the advent of RPT industry standards, it has now become necessary to identify notonly the related parties but also the different type of related party transactions (depending on materiality, balance sheetand profit/ loss items and interest of promoters) to be entered into with these related parties as the RPT IndustryStandards. Such bifurcation navigates different disclosure requirements for different RPTs.

RPT Industry Standards are applicable for approval of all related party transactions to be entered from FY 2025-26. In this context, following are some of the recommendatory changes in RPT approval mechanism that a listed entity may undertake to implement RPT Industry Standards.

Recommendations for upgrading RPT approval mechanism:

For better understanding, we would bifurcate the expected procedural changes in following three criteria:

• Before approval of audit committee
• At the time of approval of audit committee
• Post approval of audit committee
  

Before approval of audit committee:

A. Improvement in data collation process:

The data collated by the listed entity from related parties till date, may not be comprehensive enough to comply withthe RPT Industry Standards. Thus, the listed entity may ask for additional data from the related parties, directors,KMPs, promoter, promoter group, etc. as per the recommendations provided below:

• Data required from the directors and Key Managerial Personnel (‘KMP’): The companies are required to provide the details of directors and KMP who have interest in the RPT whether directly or indirectly (i.e., either through any entity or relatives). Hence, the disclosures taken from the directors and KMP of the listed entity can be upgraded to add the details of entities in which there is an indirect holding or control of the directors (i.e., through any other entity or relatives).
• Data required from the promoters and promoter group members (‘P&PG’): Since the RPT Industry Standards require the companies to identify those persons/ entities (i.e., related parties) in which the P&PG have concern or interest (directly or indirectly) the disclosure requirements for RPTs may differ considering the transactions with these entities. This data may not be collated till now by the listed entities as there was no such requirement under RPT earlier. Hence, annual disclosure and the disclosure at the time of any change, may be taken from P&PG wherein the details of entities in which they are interested or concerned, i.e., they hold 2% shareholding or voting rights of that body corporate (related party), or is a promoter, managing director, manager, Chief Executive Officer of that body corporate (related party) or is a partner, owner or member of any other firm or LLP or other entity would be required.
• Data required from the related parties (‘RP’) other than subsidiaries:
  • Some additional details may be taken from a new related party (‘RP‘) (possibly at the time of vendor registration or at the time of obtaining approval of RPT from Audit Committee) which which would include financial statements of past 3 financial years with detailed notes to accounts, any any shares along with % holding directly or indirectly in the listed entity/ subsidiary company (‘Subco.), latest credit rating of the RP, credibility position of the RP, Defaults in repayment if any in last 3 FYs, etc.
  • Annual confirmation can also be taken from the RPs in terms of any change in the information provided earlier.

• Data required from the subsidiaries: If the subsidiary is a party to transaction, the listed entities would also need information from subsidiaries and especially, foreign subsidiaries such as financial statements, entities in which they have control, etc.

Such information as may be required from the directors, KMP, P&PG, related parties, subsidiaries, etc. can be collated in the specific formats (provided by the listed entity) for uniformity and completeness of the information required before taking approval of the audit committee.

However, it can be challenging for the listed entities to seek data/ information from KMPs, directors and P&PG as maybe required for compliance with RPT Industry Standards in terms of information to be placed for approval.

Obligations to provide disclosure for compliance with RPT Industry Standards

Regulation 5 of the SEBI (Listing Obligations and Disclosure Requirements), Regulations, 2015 (‘Listing Regulations‘) require the listed entity to comply with all the applicable laws.

In furtherance to the same, proviso to Regulation 5 as added in the SEBI amendment dated December 12, 2024 poses responsibility of providing the relevant information to the KMPs, directors, P&PG, or any other person dealing with the listed entity to ensure compliance with the applicable laws.

Thus entities stated above may be required to provide the data to the listed entity for complying with the RPT Industry Standards as well as Listing Regulations and any missing information can be highlighted by the listed entity to its audit committee.

Since the format for placing the RPTs for approval of audit committee has been revised, any approval or ratification required to be taken, post this circular, is required to be approved along with the information as required in RPT Industry Standards.

B. Back-ups for information provided:

Thus the listed entity, may for additional caution in terms of data provided and data validation, also collate/ prepare the following:

• Detailed justification: Clear and detailed justification for entering into each RPT is required to be provided by the management of the Company to the audit committee \, considering the need and benefits of the transaction, benefits of entering into such transaction with the said related party, etc.
• SWOT Analysis of the information provided & Management comments: Management of the listed entity can undergo SWOT analysis of information proposed to be placed before the audit committee to justify whether the RPT is favourable/ in best interest of the listed entity and the public shareholders and provide its comments for each line item.
• Documents backing the information: The correctness of information provided is a must. Hence, supporting documents can be asked from various departments (Finance team, business heads, etc.) backing the information provided so that the audit committee can take informed decisions basis proper backups.
• Third party reports/ Peer comparison: In cases where internal documents may not be commensurate, the listed entity can also opt to take third party reports for placing justification on the terms of transaction or can also place peer comparison report to justify the transaction.

At the time of approval of Audit committee:

Once such data is received from the related parties and other stakeholders, the listed entity can present all the back ups to the audit committee along with the information required to be placed for the RPTs which is required to be segregated into three baskets:

• Material RPT
• Other RPT, but which is with promoter or promoter group or person/ entity in which promoter or promoter group has concern or interest
• Residual RPT

to determine the disclosure requirements while placing the transaction for approval.

A. Basketing of RPT:

Till date, very few listed entities may be basketing the RPTs with P&PG, and other RPs and material RPTs separately at the time of information to be placed before the audit committee.

However, as per the RPT Industry Standards, every listed entity to whom these provisions are applicable, is expected to bifurcate the RPTs into those three baskets with further bifurcation into balance sheet and P&L items at the time of approval of audit committee.

Hence, the listed entity is required to identify the list of related parties and related party transactions with them well inadvance with the budget analysis for each transaction which will enable the listed entity to bifurcate the transactionsinto above baskets.

The agenda shall also be placed before the audit committee for approval in this format only so that the audit committee can easily evaluate the transactions which are material or conducted with P&PG or their interested or concerned entities or other RPs for their further analysis.

Since we have referred to some additional information required from the internal/ external stakeholders for entering into RPT, let us also look into further recommendations in terms of action points which can be relevant before/ while taking approval of the audit committee.

B. Presentations during the meeting:

Various external parties, auditors, management, business or finance teams can be asked to give detailed presentation before the audit committee to clarify critical aspects of the RPT (e.g. valuer can present the basis of valuation provided in the valuation report, etc.) to enable the audit committee to make decisions.

C. Minutes of the meeting:

All the comments provided by the audit committee at the time of approval/ ratification of RPTs are required to be mentioned in the minutes of the audit committee meeting.

Post approval of Audit committee:

Reconciliation of data:

Apart from all of the above, it is necessary that the correct and similar data is presented in various documents provided by the listed entity internally or externally to the public or regulators.

Once such reconciliation can be done with the amount related party transactions stated in details entered in the integrated governance report, disclosure made under reg 23(9) and the audit committee approval documents along with financial statements.

Basis all the information placed before the audit committee considering the above procedural changes made to ensure comprehensiveness and correctness of the data, audit committee is expected to critically review the same and give approvals on RPTs.

Conclusion:

The management of the listed entity may strive to collaborate with all external and internal stakeholders including various departments to upgrade the systems and processes followed for approval of RPT as the onus will be on audit committee (specifically independent directors) to approve the transactions and critical evaluation of all transactions would be undertaken by them.

These directors would ask detailed information and clarifications from the management before taking any decision and hence, arrangement of adequate information/ documents for justification of each RPT is a must!!

This article has been published on Taxmann. The link for the same

https://www.taxmann.com/research/company-and-sebi/top-story/105010000000026289/procedural-and-conceptual-impact-of-rpt-industry-standards-experts-opinion

The article is written by Mr. Saurabh Agarwal – Partner and Ms. Priyanka Nagda – Associate Director.