Analysis of the Legal Protections Afforded To Investors without a Formal Commercial Presence in Pakistan

ANALYSIS OF THE LEGAL PROTECTIONS AFFORDED TO INVESTORS WITHOUT A FORMAL COMMERCIAL PRESENCE IN PAKISTAN

By M. Anum Saleem

As the Rupee devaluates against the Dollar steadily, analysts argue that Pakistan must make its local commercial laws and regulations more welcoming and attractive to investment from overseas. The effect of this would not only be a gradual recovery of the Rupee, but it would also stimulate economic activity in the region which is desired for a recovery of the economy. Investment through incorporated entities in the jurisdiction of Pakistan is sometimes considered unviable due to the volatile security situation, and application of an unsteady regulatory framework. For these reasons, Pakistan has seen a mass exodus of commercial entities owned and controlled from persons residing in foreign jurisdictions.

A suggested alternative method for foreign investors to invest in Pakistan is to do so without having a registered commercial presence in the country. The benefits of this to the foreign investor include being able to invest without having to exist in the jurisdiction of Pakistan. This would allow them to invest without having to deal directly with local regulatory bodies. It is prudent to expect persons of Pakistani origin to understand and maneuver local regulation and law more swiftly, hence this set up works to the advantage of foreign investors. However, this system would effectively detach the foreign investor from the place of business to the extent that protection of their rights vis-a-vis the entity that they have invested with would not be guaranteed as well as they would have been had the foreign investor decided to maintain a commercial presence in Pakistan. It is the legal protection of such investment that this Article seeks to discuss, through an analysis of the position of Pakistani law on the rights of foreign investors. Suggestions regarding improvement of protection shall be made towards the end of the Article, and a case shall be made out for the reliance upon Alternative Dispute Resolution mechanisms.

The law envisages swift application and enforcement of laws relating to corporate entities. Which is why in section 7(1) of the Companies Ordinance, High Courts in the jurisdiction where the company holds its registered office are given jurisdiction. The effect of this is that it protects corporate entities from the inefficiency of the lower courts, and the inconvenience of long drawn out suits. It is argued that the backlog of cases in the High Courts neutralize the expediency so envisioned, but the general opinion amongst companies and lawyers is that the access to the superior judiciary is still beneficial and more convenient.

Part XIV of the Ordinance deals with companies established in foreign jurisdictions seeking to conduct business within Pakistan. Section 450, however, limits the scope of this part of the Ordinance with regards to applicability to businesses that have established a place of business within Pakistan. Therefore it excludes investment from persons not based in Pakistan.

For a foreign entity seeking to invest in Pakistan, it is important to note that as per executive prerogative, the maximum shareholding of foreign investors in a company limited by shares is forty nine per cent. While it may seem that this would preclude the foreign investor from obtaining directorial control over the enterprise, this is not the case. Non-compete contracts with nominee shareholders; obligating the nominee shareholders to enable the foreign shareholders to maintain directorial and managerial control are enforceable by law. However, such an arrangement would require the foreign entity to maintain presence through principal or agent in the Pakistani jurisdiction in order to conduct the affairs of the business. This would bring with them the inconvenience of maneuvering the regulatory and other obstacles.

The most important of the advantages of maintaining commercial presence in Pakistan is the access to the Companies Bench of the High Courts as per sections 7 and 8 of the Ordinance. As discussed earlier, this implicates that the companies can have circumvent the inefficiencies of the lower courts, but a more important and direct advantage of the activation of jurisdiction of the Companies Benches is that section 9 requires that all matters must be disposed as expediently as possible, and the duration within which the case shall be disposed shall not exceed ninety days. However, it must be stated that generally the courts have not complied with the time limit imposed in section 9. The courts have often attributed this inability to expedite suits relating to company matters to logistical impediments such as the vast backlog of cases in the courts. It must also be noted that due to recent reinvigoration of the judiciary, the backlog has started shrinking, so it may be the case that the courts may achieve the capacity to dispose suits of matters pertaining to company issues within the stipulated ninety day period.

While the advantages of sections 7 to 9 may incentivize investments through commercial presence, these advantages must be set off against the bounds of section 456, which states that if a company or a foreign entity operating through registered office fails to comply with the requirements set forth in the Companies Ordinance, it would be barred from invoking the jurisdiction of the courts in order to assert any right or seek redressal for any perceived or actual damage incurred. And while section 456 states as such, it also states that this would in no way limit the liabilities of the concerned entity as per the laws of contract.

It is important to discuss the rights of creditors, as the Companies Ordinance places no restriction upon the domicile of creditors, but it does provide them with some very important rights - for example, the right to apply for the winding up of a company with the Companies Court. The only qualification for such an applicant is that the creditor must have an investment of worth at least twenty per cent of the share capital of the company. However, this right ceases to be attributed to a foreign entity if it maintains commercial presence in Pakistan, and does not comply with requirements set forth in sections 452 and 453.

A more detached mode of investment would be to credit locally owned and managed companies. Given the rate at which the Pakistani Rupee is devaluating, this may very well be very profitable for any company seeking to make short term investments, since this incentive will gradually cease to exist as more foreign investors credit locally registered and run companies - improving the country's foreign exchange reserves. This sort of investment does not expose the foreign investor to any extra regulation. It may have regulatory and taxation implications for the local company and such may have an indirect impact on the viability of such investments. Given the other regulatory and legal impediments that the investor is circumventing, this may still be a reasonable tradeoff.

In order for such investments to be secure, there must be enforceable contracts governing the transaction. As per the laws of contact, that are mostly universal due to the common law principles of contract, foreign parties may negotiate the terms of the contract governing their investment with the companies they seek to credit, hence allowing flexibility in determining the desired outcome of their contract, and providing the comfort of illusory certainty.

If the persons seeking to invest in Pakistan determine that even with the drawbacks of civil litigation in Pakistan, they wish to invest in the territory, the enforcement of their contract shall be determined in view of the rules contained in the Code of Civil Procedure, 1908 which defines the jurisdiction of courts with respect to the place of execution, performance and subject of contracts, and other related criterion.

Section 20 of the Code of Civil Procedure defines the jurisdiction of courts with respect to contracts. In case there is a breach of contract, parties may invoke the jurisdiction of courts having jurisdiction in the territory where the contract is to be performed, or if the contract is to be performed in several places, in the jurisdiction where the contract was to be completed, or in the case of revocation in the jurisdiction where the revocation occurred.

So it may be said that there exists a well established enforcement mechanism for contracts in Pakistan, therefore, if a foreign entity envisions investing in a Pakistani company by crediting without establishing a registered place of business, it can reasonably expect enforcement of its rights and protection of its investment through the local courts. However, it must strategically decide which jurisdiction to contract in. At the onset, it must be determined whether the entity wishes to contract in its own jurisdiction, or in Pakistan, it must consider the following facts. Firstly, if it decides to contract in its own jurisdiction, it may forgo the access to Pakistani courts, as per jurisdiction arising out of place of contract. It must then prove that the subject matter of the court was to be exercised in Pakistan, and that the performance of the contract was to occur in Pakistan, in order to invoke the jurisdiction of Pakistani courts. Whether crediting an entity for the consideration of interest, may be defined as a contract being performed in Pakistan is doubtful. A foreign investor should always consider the importance of access to local courts, since the enforcement of decrees passed by local courts is easier to enforce. The Code of Civil Procedure, 1908, does allow for the enforceability of foreign judgments if such judgments have been duly made by courts of competent jurisdiction, or that it has not been given upon the merits of the court, of where the judgment seems not to be based prima facie on a correct view of International Law, or refuses to recognize the law of Pakistan, and does not oppose the principles of natural justice, and is not obtained by fraud. However, even a judgment that passes these requirements may have to be adjudicated upon by the courts of Pakistan, hence involving civil litigation in Pakistan.

If the foreign entity decides to contract in Pakistan, it may forgo the right to invoke the jurisdiction of the courts of its country, and would be completely reliant upon the courts of Pakistan for the enforcement of contractual rights and obligations. This may be advisable, since this would limit the matters to be litigated upon to just the merits of the initial dispute of the parties, and would exclude further litigation to arise out of issues pertaining to the enforcement of foreign judgments in Pakistan. This may expedite the legal process.

Another way to resolve disputes with local debtors would be to add arbitration or mediation clauses in the contract. Such clauses have been adjudicated to be considered binding and awards are also enforceable.

Alternative dispute resolution (ADR) gives parties in dispute the opportunity to work through disputed issues with the help of a neutral third party. It is generally faster and less expensive than going to court.

When used appropriately, ADR can save a lot of time by allowing resolution in weeks or months, compared to court, which can take years, save a lot of money, including fees for lawyers and experts, and work time lost, put the parties in control (instead of their lawyers or the court) by giving them an opportunity to tell their side of the story and have a say in the final decision, focus on the issues that are important to the people in dispute instead of just their legal rights and obligations, help the people involved come up with flexible and creative options by exploring what each of them wants to achieve and why, preserve relationships by helping people co-operate instead of creating one winner and one loser, produce good results, for example settlement rates of up to 85 per cent, reduce stress from court appearances, time and cost, keep private disputes private - only people who are invited can attend an ADR session, unlike court, where the proceedings are usually on the public record and others, including the media, can attend, lead to more flexible remedies than court, for example by making agreements that a court could not enforce or order (for example a change in the policy or practice of a business), by satisfying to the participants, who often report a high degree of satisfaction with ADR processes, give more people access to justice, because people who cannot afford court or legal fees can still access a dispute resolution mechanism.

Firstly, because the parties in an arbitration are usually encouraged to participate fully and sometimes even to help structure the resolution, they are often more likely to work together peaceably rather than escalate their angst and hostility toward one another, as is often the case in litigation.

Secondly, arbitration is becoming more costly as more entrenched and more experienced retired judges/lawyers take up the cause. It is not unusual, for example, for a well-known arbitrator to charge Rs.100,000 to 200,000 for his or her services in a case. And most parties in arbitrations will also hire lawyers to help them through the process, adding to their costs.

Thirdly, according to a recent study by the Federal Mediation and Conciliation Services in the US, the average time from filing to decision was about 475 days in an arbitrated case, while a similar case took from 18 months to three years to wend its way through the courts.

Fourthly, unlike trials, which must be worked into overcrowded court calendars, arbitration hearings can usually be scheduled around the needs and availabilities of those involved, including weekends and evenings.

Fifthly, the often convoluted rules of evidence and procedure do not apply in arbitration proceedings - making them less stilted and more easily adapted to the needs of those involved.

Sixthly, arbitration proceedings are generally held in private. And parties sometimes agree to keep the proceedings and terms of the final resolution confidential. Both of these safeguards can be a boon if the subject matter of the dispute might cause some embarrassment or reveal private information, such as a company's client list.

For international commercial transactions, the parties may face many different choices when it comes to including a mechanism for resolving disputes arising under their contract. If they are silent, they will be subject to the courts of wherever a disaffected party decides to initiate legal proceedings and believes it can obtain jurisdiction over the other party. The other option that contracting parties have for arbitration jurisdiction is that of domestic arbitration. This would involve an arbitration clause which resorts to solving the dispute in local territory as opposed to a foreign or international jurisdiction. The benefits for domestic or local arbitration would include low costs, greater feasibility for the parties involved and a more private session for both stakeholders. Here, privacy would be a major issue for both the parties involved as none of them would want to tarnish their public image and subsequently, harm the goodwill built over the years.

Hence, in conclusion, it is suggested that a foreign entity seeking to invest in Pakistan should consider investing in Pakistani entities through contracts executed in Pakistan, and should include a mandatory arbitration or mediation clause in their contract. It should be sought that this clause shall be mandatorily activated by a civil court, so that enforcement of the arbitration clause can be guaranteed.

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[1]("#_ftnref1" "\"\""){#"_ftn1"} LL.B., M.A. Economics (Pb.), L.L.M. (Toronto), Advocate High Court, Adjunct Faculty, LUMS, CEDR Accredited Mediator, Partner, Saleem and Shiraz, Advocates and Legal Counsel. The contributions of Jahanzeb Sukhera, Faheem Ahmad and Saifullah Waqar, BSc. Students at LUMS are gratefully acknowledged.

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