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The need to have an effective Competition Law regime

The need to have an effective Competition Law(1)

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May 3, 2018 Posted by | Competition Law, Foreign Direct Investment, Uncategorized | , , , , , , , , , , | Leave a comment

Competition Law and Foreign Direct Investment (FDI)

The need to have an effective Competition Law regime to attract Foreign Direct Investment

  • Ajithaa Edirimane LLB (Colombo) MLB (Hamburg), Attorney-at-Law & N.P

Competition in an economy promotes efficiency and enables goods and services of good quality to be made available to consumers at lower prices. Not only does it protect consumers but it also creates a level playing field for competitors leading to better innovation and opportunities for new competitors to enter the market. Competition law or laws that prohibit anti competitive practices, therefore, is a sine qua non of a market economy.

The focus of competition law is on three main areas:

(1) prohibition of anti competitive agreements among suppliers of goods and services such as: price fixing, collusion and cartels[1] (horizontal agreements) or restrictions on the distributor by the manufacturer (vertical agreements);

(2) prohibition of the abuse of dominant power in goods or services in the relevant market; and

(3) supervision of mergers and alliances that lead to the suppression of consumer rights and the abuse of dominance.

It is also important to note that anti competitive acts can occur in ways other than price fixing and collusion. For example, a business may use ‘predatory pricing’ (i.e. pricing which is below cost of production) to gain a foot hold in a market and thereafter, once the predatory business has gained sufficient market power, drastically increase the price of the product putting the consumers at a disadvantage if they cannot immediately switch over to the product of a competitor. Another method is through standards established for products of dominant businesses. While a standard is granted for products that meet certain quality requirements, such standards established for products of monopolists or cartelists may act as entry barriers for smaller firms preventing them entering the relevant market. This helps to consolidate the market power of a few market leaders who can then fix higher prices for their products using the “standard” as a shield, to the detriment of smaller firms.

Protection of consumer rights has been an essential element of governance going back to the Roman Empire, where tariffs used to control prices and properties of monopolistic trades were confiscated. Competition law, as applicable now, has its roots in the anti trust laws of USA[2], which were then primarily enacted to break up trusts created by powerful corporations to conceal their business arrangements with each other. Governments over the years have been quite wary of businesses in the hands of a few. In the European continent, especially in pre World War II Germany, it is believed that the Nazis were quick to have a hold on the country by bribing and blackmailing the heads of cartels that controlled the economy.

The opponents of competition law fear that its strict enforcement will suppress the development of businesses and hinder the innovative spirit. In the famous United States v Microsoft [3] case, the US Department of Justice (DOJ) and 20 States took action against Microsoft for abusing monopoly power. The issue was over Microsoft bundling its Internet Explorer web browser with the Microsoft Windows operating system. It was alleged that this restricted the market for other web browsers that were slow to download or had to be purchased at a store. In the judgment delivered in 2000, the court ordered the business of Microsoft to be split into two parts, one for operating systems and the other for software components. However, later on appeal, the case was settled with Microsoft agreeing to share its programming interfaces with other third party companies and for a panel to monitor certain areas of its operations. This case demonstrates the conflicts between consumer welfare and protection of industries in the enforcement of competition laws.

 

Enforcement of Competition Law in established competition law regimes

The modern day competition laws that have spread around the globe since the beginning of the 20th century and adopted by over 100 countries in various forms based on their socio economic systems, have in some form or other, taken the US anti trust laws and/or the competition laws of the European Union (EU) as examples.

The EU consisting of 27 member countries was formed primarily to create a Single Market. In order to achieve this objective, a transparent and standardized system of laws, referred to as “EU Competition law” was enacted and implemented through the European Commission, giving it primacy over the national laws of each member state. EU Competition law therefore, crosses various ethnic and cultural barriers and is enforced without fear and favor to achieve a single market. It strives to meet the needs of all consumers within the EU in a fair and rational manner.

In this article, reference is made to the main elements of the EU competition law and the competition laws of India in analyzing whether Sri Lankan competition laws are an effective deterrent against anti-competitive practices.

 – Dealing with anti competitive practices under EU Competition Law

Under EU Competition laws, the main deterrent used by the authorities to prevent competition law violations is the heavy penalty imposed on any undertaking that breaches its provisions. A fine is usually 10% of the turnover of the undertaking, including its world wide turnover, which is too hefty a fine for any business to absorb.

 In one of the cases decided in November 2009, the Commission fined plastic additives producers €173 million (equivalent to about 20 Billion Rupees) for price fixing and market sharing cartels. The Competition Commissioner in a statement published in the EU Competition Commission web site stated These companies must learn the hard way that breaking the law does not pay and that repeat offenders will face stiffer penalties. The companies’ elaborate precautions to cover their tracks did not prevent the Commission from revealing the full extent of their determined efforts to rip-off their customers” The Commission’s investigation began with unannounced inspections in February 2003,[4]

 In a recent news release (July/2010) it was stated that The European Commission has decided to initiate formal antitrust investigations against IBM Corporation in two separate cases of alleged infringements of EU antitrust rules related to the abuse of a dominant market position (Article 102 TFEU). Both cases are related to IBM’s conduct in the market for mainframe computers. The first case follows complaints by emulator software vendors T3 and Turbo Hercules, and focuses on IBM’s alleged tying of mainframe hardware to its mainframe operating system. The second is an investigation begun on the Commission’s own initiative of IBM’s alleged discriminatory behavior towards competing suppliers of mainframe maintenance services.

EU Competition Law rests on three pillars: (1) Article 101 of the TFEU prohibiting restrictive agreements, (2) Article 102 of the TFEU prohibiting the abuse of market power and (3) Merger Regulation 139/2004 (ECMR) for supervision of mergers[5].

Anti competitive acts under Article 101(1) TFEU

 Article 101 (1) prohibits all agreements between undertakings[6], decisions by associations of undertakings and concerted practices which may affect trade between Member States and which have as their object or effect the prevention, restriction or distortion of competition within the common market, and in particular those which:

(a)  directly or indirectly fix purchase or selling prices or other trading conditions;

(b)  limit or control production, markets, technical development, or investment;

(c)  share markets or sources of supply;

(d) apply dissimilar conditions to similar transactions with other trading parties, thereby placing them at a competitive disadvantage;

(e) make the conclusion of contracts subject to acceptance by the other parties of supplementary obligations which, by their nature or according to commercial usage, have no connection with the subject of such contracts.”

It is important to note therefore, that the prohibition in Article 101(1) applies only to such agreements and concerted practices which prevents, restricts or distorts competition within the common market and has an “appreciable effect” on member states.

In recent years, as governments have increasingly contracted out services, (i.e. air traffic controllers, ambulances). The argument is that the public service is for all citizens and not solely designed to ‘maximize the economic welfare of citizens’ and hence should be regulated under Art. 101.

 

Exemptions under Article 101(3) TFEU

 Under European Union competition law, an exception can be granted to an anti competitive practice[7], even though there is an infringement of Article 101(1), if the conditions stipulated under Article 101(3) are fulfilled. Any agreement, decision or concerted practice between undertakings or associations of undertakings will not be prohibited, in spite of preventing or restricting competition, if it:

(1) improves the production or distribution of goods or promotes technical or economic progress, (“efficiency gains”);

(2)  allow consumers a fair share of the resulting benefit, (“fair share for consumers”);

(3) does not impose on the undertakings concerned restrictions which are not indispensable to the attainment of the said objectives (“indispensability of the restrictions”) and

(4) does not afford the undertakings the possibility of eliminating competition in respect of a substantial part of the products in question (“Non elimination of competition”).

‘Efficiency gains’ arise when the agreement (notwithstanding its restrictions on competition) contributes to improvement in the production or distribution of goods or promotes technical or economic progress. The effects of efficiency gains are matched against the disadvantages arising from restrictions on competition caused by the agreement.[8] In this cost benefit analysis, the gains should thus outweigh the negative effects of restrictions on competition[9].

As explained in the EC Guidelines, the application of Article 101(3) becomes relevant only when an agreement between undertakings restricts competition within the meaning of Article 101 (1). If a restriction of competition has been proved, Article 101(3) can be brought in as a defense. In terms of Article 2 of Regulation 1/2003 and as decided in several cases[10], the burden of proof is on the undertaking which seeks the exceptions under Article 101(3). These four conditions have a cumulative effect and therefore, even if one condition is not fulfilled, the exemption sought under Article 101 (3) will not be granted.[11] If an agreement or concerted practice is restricting competition under Article 101(1) and is not exempted under Article 101 (3), then such an agreement or concerted practice will be automatically void under Article 101 (2). Such infringements of Article 101(1) are deemed “hard core.” In this regard, cartels are considered as falling within the “hard core” category.

 

Abuse of dominant position and Article 102 TFEU

Article 102 applies when a single undertaking or a group of undertakings in a dominant position has abused the dominant position for anti competitive gains within the common market.

The important feature in this provision is that it does not ban dominance as unacceptable. Only the abuse of dominance is considered unlawful. Article 102 also specifically refers to certain practices which are considered abusive outright. Even though there is a well developed case law in the European Union for the application of Article 101, in respect of Article 102, the decided cases are limited. There is continuing debate whether the application of Article 102 to the operation of industrial giants would hamper their growth and innovation, which would be a loss to society[12].

In ascertaining whether an undertaking has market power a test called The SSNIP test is used. The Hypothetical Monopolist or Small but Significant Non-transitory Increase in Prices (SSNIP) test is used to determine the product market in which one could find a Hypothetical Monopolist.  This test helps to define the relevant market by determining whether a given increase in product prices by a significant percentage (i.e.5% – 10%) would result in consumers switching to other substitutes. If consumers switch to a substitute as a result, the substitute and the product of which the price was increased are both added together as one market. This test would thus continue till at some point, consumers would no longer switch from the products contained as one product category. This would then be identified as the relevant product market of the business under investigation. The market share held by the undertaking in the product market would determine whether the undertaking has a market power.

 

EC Merger Regulations

EC Merger Regulations No. 139/2004 of 20.1.2004 supervises concentrations of undertakings, arising from mergers or acquisitions. The objective is to limit the market power in a ‘relevant market’ arising from mergers or acquisitions which otherwise may affect the interests of consumers. When undertakings merge to take advantage of economies of scale, the reduction of competitors in the market tend to give the merged entity an undue advantage affording it opportunities to limit production or directly increase prices. Pursuant to Article 3(1) and 3(4) of the Merger Regulation:

(1) A concentration[13] is deemed to arise where:

(a) two ore more previously independent undertakings merge, or

(b) one ore more persons already controlling at least one undertaking or – one or more undertakings acquire, whether by purchase of securities or assets, by contract or by any other means, direct or indirect control of the whole or parts of one or more other undertakings.

Article 3 of the Merger Regulation contains provisions concerning control and the acquisition of control. The test in this instance is to ascertain whether the arrangement having a specific “turnover” also has a “community dimension” which gets caught to supervision by the EC authorities. In which case prior to the effective merger, notice need to be given to the EC Merger Registry of the Commission seeking clearance for the proposed merger. Up to October 2009, there have been 203 such notifications[14]. If the undertakings fail to do so, they take the risk of having the resulting entity de-merged if a violation of the Merger Regulations can be established.

In the European Union, the competitive nature of businesses are so intense that even if the authorities fail to pick up the business for a violation of competition laws, there is always a likelihood of the business being reported for anti competitive actions by its rivals in the same market.

– The Competition regime in India

 The Competition Law of India is contained in the Competition Act of 2002 gazetted on 14th January 2003. The Act was implemented in 3 phases and was fully enforced as from 2006. The Act has established the Competition Commission of India as the regulatory body for this purpose, which has the power to summon and enforce the attendance of witnesses, require discovery and production of documents, impose penalties and jail terms for violations of the Act.

The Act applies to:

  1. goods, which includes goods imported into the country
  2. services ‘of any description which is made available to potential users and includes the provision of services in connection with the business of any industrial or commercial matter, such as transport, storage…’
  3. trade, ‘relating to the supply, distribution, storage or control of goods and includes the provision of any services’

The Indian Authorities recognize that an ‘anti competitive agreement’ may result in any of the following ways:

  1. agreement to limit production and/or supply;
    2.    agreement to allocate markets;
    3.    agreement to fix price;
    4.    bid rigging or collusive bidding;
    5.    conditional purchase/ sale (tie-in arrangement);
    6.    exclusive supply / distribution arrangement;
    7.    resale price maintenance; and
    8.    refusal to deal.

The focus of the Act under Sec. 3 is to prevent practices which cause an appreciable adverse effect on competition in India. Mergers and alliances which are referred to as “Combinations” under the Indian Act, are void if such cause an appreciable adverse effect on competition in India. In the event of a failure to comply with an Order of the Commission, a penalty of Indian Rupees One Lakh (Euro 1590/- or SL Rupees 238,500/ ) is imposed for each day during which such failure continues.  The Act also gives the Commission the power to investigate anti competitive agreements, dominant positions or a combination which occurs outside India, if it causes an appreciable adverse effect on competition in India. The Commission has the power to detain any person (including the Directors, Secretary or Officer of a Company which contravenes the Order of the Commission) in civil prison for a term not exceeding one year, in addition to a penalty not exceeding Indian Rupees Ten Lakhs (Euro 15,900/- or SL Rupees 2,385,000/-) .

Up to September 2010, India’s Competition Commission has handled 118 cases and dismissed 24. There were five in the final stage of determination.[15] Currently it is awaiting approval from the Government for a ratification to Sec. 5 of the Act, which provides that an Indian company with a turnover of over Rs.3,000 crore cannot acquire another company without the Commission’s prior approval.

The Consumer Protection Act 1986 of India does not address competition issues. In Lucknow Development Authority v. M.K. Gupta,[16] the Supreme Court observed that even government bodies or development authorities that develop/allot land and/or construct houses for the common man in discharge of their statutory functions render a ‘service’ and, hence, are subject to the provisions of the Consumer Protection Act.

 

Do we have an effective Competition Law regime against anti-competitive practices and cartels in Sri Lanka?

Anti competitive acts and unfair business practices in Sri Lanka

Should not Sri Lanka have a competition regime as tough as the EU Competition law or comparable to that of countries such as India and Singapore, close to us in the region?; It is a question that one needs to explore considering the constant lament of consumers against price increases and numerous unfair business practices and market manipulations by big businesses and service providers.

The worst anti competitive act or abuse of power that currently seems to occur in Sri Lanka appears to affect basically the consumers of our entire nation, as it applies to the rice trade, the staple diet of the people. The existence of which is not a secret and is explicitly described in the following extract of an article[17] posted on the web:

There is a large number of small-sized rice producers scattered around the country. The smallness of their unit of operation precludes the fact that any single producer does not have the power to influence the outcomes of the rice market. On the other hand, the large number of rice consumers also does not individually have the power to influence the market outcomes. According to theory, this situation is best described as a competitive market. In a competitive market, however, the prices should be lower compared to other forms of markets, there should not be shortages of supply, and the quality of the products should be higher. Due to the peculiar nature of rice market, there are various types of anticompetitive activities.

The collection and distribution of rice – the chain linking the producers to the consumers – is comprised by a small number of large traders. This has become the most influential force in the rice market. Though from time to time the governments attempted to make anti-market interventions by creating state monopolistic institutions, the nature and characteristics of the rice market have not changed overtime. The selected intervention led to further distorting the rice market rather than correcting it. According to theory, these middlemen or rice traders are to get their share equal to the cost of their transactions. Even though producers of rice sell their products at very low prices, the consumers pay very high prices compared with the producer price. It is very essential to question as to why there is a huge gap between the producer price and the consumer price of rice in Sri Lanka. The gap should normally be the cost of collection and distribution of rice. But the size of the gap far exceeds the size of the cost that should incur by the traders.

However, this is not the main issue in the rice market. The major source of rice market distortion is related to anticompetitive activities of the rice traders.  These anticompetitive activities of the rice traders include: abuse of dominant positions by the rice traders, trading cartels created by rice traders, discriminatory pricing (such as predatory pricing and dumping), excessive pricing, discriminatory treatment, maintaining resale prices, creating artificial supply shortages, collusive dealings, and reciprocal dealings. The usual higher prices of rice and supply shortages are not due to the higher than normal demand for as rice demand in Sri Lanka is almost stable, but because of the anticompetitive activities of the rice traders. Therefore, the best solution for this kind of situation is not to create a state monopoly institution that further distorts the market but to introduce competition policies and laws to prevent anticompetitive activities in the rice market.

The above narration clearly illustrates the need for an effectively implemented competition policy in Sri Lanka. This however, is not the only anti competitive act and blatant abuse of market power prevailing in our country. There are many such instances; in telecommunications, petroleum, pharmaceuticals, liner shipping[18], etc. The silence of consumers, due to the absence of laws to tackle such situations, lack of knowledge of their legal rights and financial strength to pursue an action to its finality, have been exploited by traders and service providers with impunity.  Needless to say, the prohibition of anti competitive acts and abuse of dominant market power can be a significant contributor of poverty alleviation[19].

 

Fair Trading Commission replaced by the Consumer Affairs Authority

 In Sri Lanka, the first step to effectively prohibit anti competitive acts was taken by enacting the Fair Trading Commission Act No. 1 of 1987 (FTC) , which in its preamble clearly stated that it is “an Act to provide for the establishment of a Fair Trading Commission for the control of monopolies, mergers and anticompetitive practices….”

This Act was however abolished and replaced by the Consumer Affairs Authority Act No. 9 of 2003 (CAA). When one compares the provisions of both, it is clear that the abolished FTC had more far reaching powers for preventing / restraining anti competitive acts and abuses of market dominance than the current CAA which replaced it. The latter appears to focus more on consumer protection than functioning as a legal tool to prevent and restrain anti competitive operations.

In Sec 11 of the abolished FTC it is stated that “The Commission may. either of its own motion or on a complaint made to it by any person, or in the case of a proposed merger, on a request made to it by any person, carry out an investigation with respect to (a) the existence or possible existence of a monopoly situation; (b) the creation or possible creation of a merger situation; and (c) the prevalence of any anti-competitive practice.” This recognized the 3 elements that need to be addressed under competition law. Section 12, 13 and 14 defined respectively a ‘monopoly’, ‘merger’ and ‘anti-competitive practice’ which comes within the ambit of the Act. Sec. 12, gave a wider definition to monopolies by referring to monopolistic activity conducted by ‘members of one and the same group’, meaning cartels. The Act required notice to be given to the FTC of any proposed merger or acquisition at least 30 days prior to the said merger or acquisition.

Sec. 15 of the FTC contained a provision similar to Art.101(3) of EU Competition Law which permits anti competitive practices if the criteria listed therein are fulfilled. In terms of Sec. 15, a monopoly, merger or anti competitive act that does not operate against the public interest would be authorized by the Commission. To ascertain whether the monopoly, merger or anti competitive act is in the ‘interest of the public’, Sec 15 described a test requiring the examination of five areas (i.e. whether it promotes effective competition, promotes the interests of consumers, the use of new techniques, facilitates new entrants to the market, maintains balanced distribution of industrial activity and maintains competitive activity in the export market)[20]. However if the monopoly, merger or anti competitive act fails in the “public interest” test, the Commission under the abolished FTC had the power to order its termination and even impose such draconian measures as dividing or winding up its business. This is similar to the measures adopted by the Anti Trust laws of the US as seen in the US vs Microsoft case.

Even though the provisions of the Fair Trading Commission Act appeared to be quite similar to provisions of Competition laws of developed countries, the powers of the Commission applied only to “prescribed goods” as gazetted. Thus, in the case of Associated Cables Limited’s buyout of Kelani Cables Ltd. even though the market share of the former increased to 70% in the relevant market, FTC could not investigate in to this matter as “Cables” was not gazetted as a ‘prescribed good’.

Furthermore, in Ceylon Oxygen Ltd [21]vs Fair Trading Commission and another, the best known case brought under the provisions of this Act, the Court held that the procedure in conducting the inquiry against Ceylon Oxygen was contrary to the laws of natural justice. In this case, Ceylon Oxygen had entered into horizontal tie-in agreements with buyers requiring them to purchase their entire requirement from the former preventing any competitor from selling its products to the buyers. These were clearly restrictive trade agreements coming within Sec.14 of the Act, but due to an inconsistency in the inquiry procedure where the initial investigation was for predatory pricing, the Court held against the FTC.

Apart from the above, almost all of the cases that have been filed for “Unfair Competition” have been under the provisions of the Intellectual Property Act for IP Rights infringements and not for anti competitive acts under the FTC. The paucity of cases for violations of Competition Law per se, gives an indication of the inability of the Authorities to achieve the objectives set down in the statute due to perhaps changes in the competition policies and also due to lack of sufficient manpower to pursue its mandate.

 

Consumer Affairs Authority Act No. 9 of 2003 (CAA)

 The CAA which replaced the FTC contains similar competition law provisions, but does not however contain provisions prohibiting anti competitive practices of monopolies and mergers and the need to give notice of such mergers as found in the CAA. A Competition Policy needs to address the abuse of dominance that may arise from merged entities which is considered the ‘third pillar’ under EU Competition Law. In contrast, in the EU and US, reporting on a merger which creates a dominant position is mandatory and a failure will result in a heavy fine equivalent to 10% of the worldwide turnover.

In Sec 8, the following are listed as part of the “functions of the Authority”.

 (a) control or eliminate-

(i) restrictive trade agreements among enterprises ; (ii) arrangements amongst enterprises with regard to prices; (iii) abuse of a dominant position with regard to domestic trade or economic development within the market or in a substantial part of the market; or (iv) any restraint of competition adversely affecting domestic or international trade or economic development;

(b)  investigate or inquire into anti-competitive practices and abuse of a dominant position ;

(c)   maintain and promote effective competition between persons supplying goods and  services ;

Even though the functions are praiseworthy, there are only limited instances for prohibition of anti competitive acts under the CAA. The provisions of the CAA is not limited to those goods and services that are gazetted as “prescribed” under the former Act, but the ability of Authority to inquire into anti competitive acts or abuse of monopoly of state institutions has been clearly removed under Sec. 77 of the Act, which states “the provisions of this Act relating to anti-competitive practices shall not apply to the supply of goods or services by any person who is supplying such goods or services under an agreement entered into with the government”.

Sec. 34 (1) provides that “the Authority may either of its own motion or on a complaint or request made to it by any person, any organization of consumers or an association of traders, carry out an investigation with respect to the prevalence of any anti competitive practice”.  Sec. 35 stipulates that an anti competitive act ‘shall be deemed to prevail, where a person in the course of business, pursues a course of conduct which of itself or when taken together with a course of conduct pursued by persons associated with him, has or is intended to have or is likely to have the effect of restricting, distorting or preventing competition in connection with the production, supply or acquisition of goods in Sri Lanka or the supply or securing of services in Sri Lanka.’ It should be noted that there is no reference to goods imported to Sri Lanka, (as found in the Indian Competition Act).

 Sec. 41 empowers the Authority to authorize acts which, even though anti competitive, are in the ‘public interest’. It provides a test similar to that contained in the FTC to determine whether the alleged act is in the interest of the public. CAA also empowers the Authority to terminate an anti competitive act or take such other action that the Authority ‘may consider necessary for the purpose of remedying or preventing the adverse effects of any anti-competitive practice’. Interestingly, reference to dividing businesses and winding up companies acting in an anti competitive or monopolistic manner is missing in the CAA. Thus, it cannot be considered as a punishment as severe as that meted out under Sec. 15 of the abolished FTC. Furthermore, abuse of dominant position in the supply of goods and services and monitoring of mergers that may result in market dominancy, are not even covered in the CAA.

The area which appears to clearly inhibit the powers of the CAA is in investigations. Sec. 20 refers to investigations carried out to gather evidence of unauthorized excessive prices or market manipulations as listed in Sec. 19 based on references made by the Director General. It provides that ‘the Council shall cause such reference to be brought to the notice of such persons, who in the opinion of the Council would have an interest in the proposed investigation to be carried out by it on such reference, and shall further give such persons adequate notice of the date on which the investigation is scheduled to commence.Even though the Act gives adequate power for investigators to enter, inspect and search premises in terms of Sec. 58, the aforementioned provision in Sec. 19 requiring notice to be given to the alleged offender prior to arrival, would undoubtedly allow the offender time to cover up any evidence that can be used against him or his business. It makes such investigations worthless and probably a waste of time and money. In contrast, under the EU investigation process, unannounced investigations called “Dawn Raids” are made on businesses which are suspected of anti competitive operations and cartelistic behavior. Investigators with IT specialists seal such premises and even take away electronic evidence stored in computers by removing the hard drive.

 

 

 

Foreign Direct Investment (FDI)

Foreign Direct Investment (FDI) is the investment of foreign assets into domestic structures, equipment, and organizations including transfer of technology as opposed to investment in shares of local companies by foreign entities. FDI is considered to be more useful and long lasting than foreign investment in shares, which is considered “hot money” that leaves the country at the first sign of ‘trouble’. The ultimate gain of FDI is that it results in an ‘efficiency spillover’ into the domestic market, (i.e. labour trained in the latest technology becomes an asset to local industries, transfer of technology tends to raise the standards of local industries, overall improvement of quality and standards of local products, increased employment opportunities, high wages, R&D and new innovations, etc.). Most benefits of FDI results from establishment of new industries or from the expansion of existing industries, which are called “Greenfield investments”.

 

What attracts FDI to a country?

Governments adopt different policies to attract FDI. Some of which are; tax holidays, low tax regimes, relaxation of existing regulations, lifting of exchange control regulations, bank loans at concessionary rates, etc. Apart from these, some features of a country, such as low cost of labour and an educated labour force, good infrastructure, political stability, population of a country (i.e. the possibility  of a huge customer base) and relative economic stability can be important determinants.

At the same time, the deterrents of FDI are lack of transparency in decision making bodies (e.g in the issuance of licenses, permits, etc), corruption, slow decision making process, protectionism of local industries, irregular enforcement of competition laws or the lack of a proper competition policy. The significance of competition policies to attract FDI is mentioned in an UNCTAD release thus:[22]if FDI inflows lead to, or are associated with, market concentration – allowing restrictive or anticompetitive practices to appear – the positive benefits of FDI may not necessarily follow. Competition policy is thus a critical accompaniment to liberalization in terms of the removal of restrictions and establishment of standards of treatment for foreign firms.’

 

How do Competition policies impact on FDI?

Noland (1999)[23] in a research analyzing Competition policy on FDI states ‘in product markets restrictive business practices can impede FDI connected with production and distribution of goods. In service markets barriers to entry can discourage investment which is essential to service local markets. Firms interacting horizontally (that is with their notional competitors or rivals) can behave in such ways to affect potential entrants’ investment decisions. Horizontal agreements that could affect FDI include price fixing, cartels or market allocation schemes, bid rigging, and refusals to deal and other abuses of incumbent position. Vertical restraints on trade involving buyers and sellers of intermediate input markets and the organization of distribution of final products can also affect FDI. Conventional vertical restraints include such practices as refusals to deal and boycotts, retail price maintenance, exclusive-dealing arrangements, and tie-ins’.  He emphasizes that these practices can affect not only foreign entrants but also local firms operating in the same relevant market.

Sometimes government policies, such as the requirements to obtain licenses and permits can be a hindrance to new entrants to the market. Such policies can weigh unfairly on new entrants who have no local know how or have only few connections. Incumbent firms may use the regulatory requirements to prevent entry to new entrants. Lax competition law enforcements can favor the incumbent firms to the detriment of the new entrant.

These practices can affect both goods trade and investment. FDI, in particular, can be affected in three ways. First, product market impediments may deter complementary investment in distribution, service, product development, and production. Second, service industries intrinsically require a local presence, and impediments in service markets retard this associated investment. Third, impediments to merger and acquisition activity in capital markets can discourage FDI in all sectors[24].

To understand the extent to which a competition law regime have an impact on FDI, we need to look at countries with well established Competition laws to ascertain to what extent these have helped to attract an inflow of FDI.

 

Inward FDI in the EU and in India

 Today, the EU is both the world’s leading host and source of FDI. As a “market leader”, the EU benefits from its openness to the rest of the world, including in the area of investment[25].

The European Union through its policies that strive to maintain the single market status, assures investors that they are able to operate in an open, properly and fairly regulated business environment, both within and across a host country’s borders. In investment negotiations, the European Union relies on the principle of non-discrimination, which is applied through equal treatment of all foreign investors. This has been amply demonstrated in the judgments of the European Court of Justice in cases involving anti-competitive practices and cartels. The EU Competition Commission has ensured strict compliance by all firms to ensure a level playing field for all businesses in the relevant market and with the objective of ensuring benefits to consumers.

Japan is ranked as the fourth largest investor into the EU, with a €4.9 billion FDI inflow in 2005. Japan ranked second in 2005 for outward FDI flows from the EU. The EU Competition Commission considers that the tough enforcement of competition policy in Japan as a key ingredient in creating a healthy modern economy in Japan, where such measures as the increase of surcharges, introduction of a leniency programme, (giving a reduced sentence to wrongdoers who cooperate with the Authorities and reveal information on competition law infringements) and enhanced investigative powers of the Competition Authority through the issuance of search warrants, etc., have increased the benefits accruing to the economy from removing anti-competitive practices. In 1989 cartelization in construction industry prevented any new entrant from establishing in the Japanese market by adopting a bid rigging process whereby the incumbent companies each took turns at bidding in major construction projects, to ensure artificially inflated prices resulting in 16 -30% increase in construction costs in public works projects.

Indian Competition Policy took a great stride forward with the country’s open economic policies in 1999. Dr. Santanu Sarkar, Associate Professor of School of Management and Social Studies, TATA Institute of Social Studies analyzing the Impact of Inward FDI says that the ‘Government in recent times felt that many of the entry barriers had greater justification at the time they were imposed, but with a much stronger and more competitive economy many of these can be removed.’ He further states that entry barriers in any industry must be explicitly justified.

 

 Local Competition policies and its impact on FDI

 The manner in which our Competition policies have had a bearing on inward FDI can be seen from the Telecommunications industry. This is an industry that exhibited intense competition in the early years but has now become anti-competitive. Jayasuriy and Knight-John state that there are several barriers to entry operating in the Sri Lanka telecommunication sector market. These include several legal/regulatory entry barriers and others that also deter new entrants and impede competition[26].

Deregulation of the industry took time, commencing with the entry of two Wireless Loop Operators; Suntel and Lanka Bell in 1996 and the subsequent entry of the mobile operators. SLTL still remains the dominant player with extensive market power in the overall telecommunications market, controlling approximately 60 per cent of the total industry[27]. SLT holds a monopoly position in the fixed assets market and controls the telecommunications industry. For instance, mobile operators have to pay the higher national rate calling charges for calls terminating on SLTL’s network, and full retail charges for international calls originating in their networks[28]; There is also tacit collusion between the WLL operators and SLT in the fixed and wireless call charges as the former seems to be following the SLT as the market leader. As the acts of a government controlled entity does not come within the scope of the Consumer Affairs Authority Act[29], there is absolutely nothing that the Authority can do to prevent such anti competitive behavior.

There is however stiff competition in the mobile telephone market with the 5 players having market shares as follows:  Malaysia’s Dialog Telecom – 46.3% ;  Sri Lanka Telecom’s Mobitel – 24.1%; Dubai’s Etisalat – 17.4%; India’s Bharti Airtel – 9.4% and Hong Kong’s Hutch (Hutchinson Telecom) -2.6% . The stiff competition among these entities was primarily to increase the market share among the present 13 million mobile phone users in Sri Lanka. The price war between competitors resulted in mobile call charges per minute dropping to the lowest in the region and bringing down the profitability of the operators. In this backdrop, Indian Bharti Airtel has alleged that its customers are experiencing “call congestion” when phoning people of other networks. They also allege that the interconnect capacity requested from other operators had not been provided. If these allegations are true, the strategy adopted by the other operators, appear to be a collusive tactic to drive away the new entrant.

Recently the Telecommunications Regulatory Commission introduced a minimum call charge of two Sri Lankan rupees (0.2 US cents) per minute for outgoing calls on mobile networks (applicable to all new subscribers), in response to the mobile phone operators’ complaint that they have incurred a combine loss of 23 Billion Rupees in 2009. This has prompted Bharti Airtel to petition Supreme Court that the minimum price “will only help the market leader and maintain the status quo at the expense of the consumer”. They maintain that unless a new player offered cheaper call rates, “any new comer will not be able to attract customers”.

Giving consumers products and services at cheaper rates is one outcome of healthy competition in the market. But one needs to ascertain whether the reduced price is part of predatory pricing with the objective of taking hold of the market to increase prices later or whether it is a price which would still yield a profit to the service provider, in which case it should be encouraged as being beneficial to consumers. Even though this necessitated a proper investigation by the Consumers Affairs Authority to ascertain the financials and a justification for the minimum price, no such investigation appears to have been held even though it is vested with powers to do so in terms of Sec.34(1). Currently, the focus of the CAA seems more towards price control than the enforcement of competition laws.

 

What needs to be done

When one considers the competition laws that currently apply in Sri Lanka, it goes without saying that a complete overhaul of the system is necessary. The current competition laws, lacks teeth to make any impact. Even the fine for a first time offender limited to a maximum of Rupees Fifty Thousand in the case of an individual and Rupees One Million in the case of a body corporate, is woefully inadequate as a deterrent against anti competitive acts. [Sec. 60(2)]. Fines should be higher and trials should necessarily be before a higher court. The law needs to be amended to cover anti competitive acts of state entities, as in India, EU, Singapore, etc. if the consumers are to really benefit from such laws and for the sake of good governance.

A competition culture needs to be established which would safeguard the interests of consumers and create a competitive environment for businesses enabling more suppliers of goods and services including FDI’s to enter the market and innovations to take place. The Consumer Affairs Authority should either create a separate division or an entity similar to the previously abolished Fair Trading Commission for monitoring market competition and enforcement of competition laws.  Countries in our region have taken giant steps forward in competition laws. There is much that we can learn from such competition regimes that are now well established. The sooner Sri Lanka gives its attention to an area of which the foundation was ironically laid as far back as 1987, the better it would be for the future of its citizen.

 

 

 

…………….

[1] OECD and other organizations estimated the harm caused by cartels in billions of dollars each year. Developing countries are particularly vulnerable. A World Bank paper estimated that in 1977, developing countries imported $8.1 billion worth of goods from industries which witnesses price fixing conspiracies during 1990’s. This represents 6.7% of the imports and 1.2% of the GDP in the developing countries. On average, over-charges are estimated between 20-30% with higher over charges in the case of international cartels. Cartels have variously been described as “highway robbery” and the “supreme evil of anti-trust” – Times News Network, April 13, 2007

[2] Sherman Antitrust Act (July 2, 1890). Clayton Act f 1914 was passed to supplement the Sherman Act

[3] Civil Action No. 98-1232 (CKK)

[4] http://europa.eu/rapid/pressReleasesAction.do?reference=IP/09/1695&format=

[5] With effect from 1 December 2009, Art. 81 and 82 of the EC Treaty have become Art. 101 and 102 respectively of the TFEU. (Treaty on the functioning of the European Union) The two sets of provision are in substance identical. Reference to Art. 101 and 102 TFEU should be understood as references to Art. 81 and 82 of the EC Treaty.

[6] Refers to an economic entity, (i.e. company, association or individual). If the subsidiary has no economic freedom to determine its conduct in the market, then it will be considered as one economic entity along with its parent (independent economic entity).

[7] There is no such comparable exception under the Anti trust laws in the US.

[8] Consten & Grundig (1966) ECJ – During the 1960’s Consten had exclusive rights to Grundig electronic products in France under a specific dealership agreement. Under this agreement, Consten had absolute territorial protection as exports and parallel imports of Grundig products were prohibited. These rights were enforced in France under the GINT trademark of Grundig. When another French company started to sell Grundig products under the UNEF trademark at a cheaper price, Consten filed proceedings for an infringement of its GINT trade mark. UNEF alleged that the dealership agreement between Consten and Grundig breached Art. 85(1) of the Treaty of Rome (now Art. 101(1) of the TFEU

[9] EC Guidelines on Horizontal cooperation agreements (OJ C3 of 6.1.2001) describes the analysis adopted by the Commission in this regard and lists categories of agreements which are deemed to bring benefits to consumers as they fulfill the conditions stipulated in Article 81(3).

[10] Consten and Grundig (1966) ECJ 347; VBVB and VBBB v Commission (1984) ECJ para.52, Matra Hachette (1994) CFI, para 104, FEFC (2002) CFI, para 339

[11] EC Guidelines on the application of Article 81(3), OJ No. C 101 of 27.4.2004

[12] V. Korah, An Introductory Guide to EC Competition Law and Practice 7th Edition, Oxfor, Hart, 2000

[13] The creation of a joint venture performing on a lasting basis all the functions of an autonomous economic entity constitutes a concentration within the meaning of para1(b)

[14] http://ec.europa.eu/competition/mergers/statistics.pdf

[15] Legally India : News for Lawyers

[16] 1994 AIR 787 1994 SCC (1) 243

[17]http://www.groundviews.org/author/cha/

[18] Randolph Perera, Chairman of the Sri Lanka Shippers’ Council (SLSC): “We hope the government will study the recent reforms in Europe and their competition laws and implements similar reforms to prevent shipping lines using anti-competitive practices.” Shippers have long complained that shipping lines formed into cartels known as ‘liner conferences’ fix schedules and prices and also impose surcharges without adequate notice. These practices exploit shippers and ultimately lead to higher prices for goods which consumers end up paying.- Aug. 14, 2009 LBO

 

[19]“Experiences from developing countries have shown that prudent competition policy and law enforcement can assist specific key sectors to accommodate/include more players. Many rural communities in developing countries, who totally depend on the agricultural sector, are classified as poor. Therefore, a competition authority would pay attention to these sectors in order to tackle anti-competitive practices affecting them. Such intervention can directly and/or indirectly contribute to wealth maintenance and creation, which is key to poverty alleviation.”- The effects of anti-competitive business practices on developing countries and their development prospects : Hassan Qaqaya & George Lipimile UN Publication 2008

[20] This is similar to the exemption to an anti competitive act in terms of Art.101(3) of the EU Competition Law.

[21] Ceylon Oxygen Co. Ltd. vs Fair Trading Commission and Another CA 932/94

[22] TAD/INF/2716 – Business Globalization continues to boom : Developing countries gain in importance

[23]Noland M: “Competition Policy and FDI: A Solution in Search of a Problem” – Institute for International Economics Working Paper (1999)

[24] Noland M; ‘Competition Policy and FDI: A solution in search of a problem?’ – Peterson Institute

[25] EU Commission paper titled “Towards a comprehensive European international investment policy” COM (2010) 343 final : Brussels, 7.7.2010

[26] Jayasuriya and Knight-John; Sri-Lanka’s Telecommunication Industry: from Privatization to Anti-Competition – Centre on Regulation and Competition  Working Paper Series : January 2002

[27]  ibid

[28] ibid

[29] Due to the exclusion under Sec. 77 of the CAA Act.

May 3, 2018 Posted by | Competition Law, Foreign Direct Investment, Uncategorized | , , , , , , , , | Leave a comment

Doing business in Dubai

Legal advice to do business in Dubai – businesssetupindubaifreezone-160317081404

dubai

February 12, 2018 Posted by | Doing business in Dubai, Uncategorized | Leave a comment

Emergency Action Plan for fire in high rise buildings

The fire that broke out on New Year’s Eve at the 60 storey Dubai mixed development high rise called ‘Address Downtown’, is an eye opener for Developers and Management Corporations of condominium properties in Sri Lanka to pay more attention towards the risk of fire and the need to have an emergency action plan for such unexpected situations.

Most developers and managers of high rise buildings in Sri Lanka pay little attention to risks of fire and there are few ( if at all) that have emergency action plans.

I have attached for the information of readers a leaflet issued by the National Fire Protection Association of USA, recommending steps that can be taken in office high rise buildings. These can be used as guidelines by Developers, Managers and occupants of local high rise buildings to develop similar emergency action plans.

Don’t let your dreams go up in smoke – practice fire safety.”  ~Author Unknown

EmergencyActionPlanHighRise

 

January 1, 2016 Posted by | Condominium properties Sri Lanka, Uncategorized | , , , , | 1 Comment

Management of Condominium Properties

Living in a condominium property is an entirely different experience, unlike living in a house in one’s divided and defined block of land. A condominium dweller is sharing walls, ceiling and floor with his or her immediate neighbors as well as the common areas with all the other unit owners living in the same condominium property. Therefore, to maintain harmony and safeguard the rights of each and every unit owner, it is necessary to have a set of rules, otherwise known as “by-laws” binding all unit owners within the sub-divided building. There are few statutory by-laws laid down in the 2nd Schedule of the Apartment Ownership Act No. 45 of 1982, which are, by no means adequate to address the numerous problems that would come up within a ‘mini city’ occupied by several house owners and their families.
Some of the issues that impact on ownership and consequently on the value of a condominium property can be broadly categorized as follows –

1. The absence of proper rules or by-laws for management, maintenance and administration of the condominium property.

2. No Sinking Fund or lack of funds for major capital expenditure for maintenance and renovations of the building.

3. Significant number of unit owners defaulting on service charges owing to the Management Corporation.

4. Disinterested Council Members or failure in the performance of their duties leading to unresolved disputes among unit owners and between unit owners and the Management Corporation.

5. Pending court cases against the Council and its Management Corporation leading to an escalation in costs which are eventually borne by unit owners as higher service charges.

6. Construction defects in a new building not addressed by the Developer and not covered by a limited warranty.

7. Inadequate insurance cover for the building or failure to maintain insurance for fire on the reinstatement value of the building, as required by the Act.

In the real estate market it is often heard that “location” is a prerequisite for determining the value of a property, based not only on the geographical location but also on the proximity to schools, supermarkets, main roads and other conveniences. Though this is true even in the case of condominium properties which attract a higher price based on location, the above mentioned factors can, anyhow, have a significant impact on the value of a condominium property in the long run.

SINKING FUND
A building, unless kept well maintained, its value will depreciate as time goes by. This is why, it is essential for Management Corporations to have adequate cash in the Sinking Fund to attend to renovations and major repairs, which will become necessary when the building starts to age. The importance of the Sinking Fund is stressed in Sec. 33(5) of Act No. 39 of 2003 by making it mandatory for the management corporation to open a separate account to ensure that the funds so deposited shall not be withdrawn without a special resolution or without an ordinary resolution with the concurrence of the Condominium Management Authority.

The Sinking Fund and the healthy financial position of a condominium property will be a significant factor to determine whether the building can maintain its property value in the long term. Similarly, if there are frequent arrears in the collection of service charges with several unit owners defaulting, not only will it impact on major renovations but also hinder the day to day maintenance of the building. Poorly maintained buildings causing an adverse impact on the property value, will consequently depress the value of the condominium unit taken as collateral by financial institutions.

INEFFICIENT COUNCIL AND ARBITRARY CONTROL BY DEVELOPERS
A lethargic, disinterested or weak Council or a Council consisting of members acting for their personal interest is, in most cases, the reason for financial problems in condominium properties. Sometimes, the Developer retains control over the Council with the ulterior motive of making money from the condominium property by appointing himself as the Managing Agent. If there is no transparency in such management and no proper accounts of expenses incurred, such a situation will be just as bad as having unit owners defaulting on their dues to the Management Fund.

Many of the problems that are currently faced by condominium dwellers arise over the management of the condominium property, in other words, “management of common elements”. This is an area which has not been adequately addressed in the Apartment Ownership Act leaving room for Developers to continue to operate the building as if the ownership of common elements are vested in them.

Some of the common problems faced by unit owners due to Developers continuing to control and manage the common elements –
i. Use of common areas for their private purposes, (i.e. as office space, storage space or in certain instances, to construct apartments carved out of common areas in the basement)

ii. Use of parking space for their own private commercial operations.

iii. Collecting service charge/maintenance fees from owners of other units but not in respect of the units which are unsold and remains the property of the Developer.

iv. Failure to release to unit owners a budget depicting the proposed income and expenditure relating to the management of the common elements and the Service charge per share value based on such budget. It is not uncommon for Developers to decide on the Service Charge according to their preferences and to credit such sums collected to their own bank accounts, whereas the Act specifically refers to the need to create a Management Fund for day to day operations and a Sinking Fund for capital expenses.

These type of problems are also prevalent in Councils which have members with conflicts of interests, whose main objective in being a member of the Council is to serve their personal interests while holding the reins of governance.

CONSTRUCTION DEFECTS
Construction defects have become a nightmare for some prospective buyers of condominiums. Unscrupulous Developers find ways and means to hide defects till the units are sold. It is rare for a buyer to detect construction defects unless he or she has a background in civil engineering or a specialized knowledge in building works. Even though buyers pay a hefty price to purchase a condominium, they fail to understand that the complex nature of condominium construction and shared ownership of common elements, makes it absolutely essential that they get the opinion of a civil engineer or a knowledgeable person to check the condominium unit and the common areas as a prerequisite before parting with millions of Rupees as sale price.

There have been instances of Developers failing to install heat proof insulation on the roof slab causing excessive heat building up in units immediately below the roof slab when these are kept closed for long periods of time. Sometimes the waterproofing of the roof slab is inadequate causing mildew on the ceiling of units immediately below. Leaks in plumbing within a unit have caused excessive damage in units below. A history of such defects in a condominium property, will invariably depress its property value even if it is located in a good residential area.

INSURANCE
Insurance of condominium properties is not a topic much talked about. Yet, it is one of the key elements that determine how safe it is too live in a condominium property. When a Developer assures a prospective buyer that he has got an insurance cover for the building, it is imperative that one finds out the exact details of the insurance; i.e. the nature of the insurance, whether it is only fire insurance or fire insurance and public liability, which is necessary since the Management Corporation can be sued for injuries that take place in the common areas of the condominium property.

In the case of fire insurance, the Act provides that the building should be insured to the reinstatement value of the property. It is necessary to find out whether the insurance cover obtained refers to an empty unit or whether it covers certain fixtures and fittings given by the Developer at the time of sale. If these are not included the unit owner should have these covered under his or her own personal fire insurance cover.

–  An extract of a lecture delivered by Ajithaa Edirimane at the Workshop on Development and Management of Real Estate conducted by the Institute of Real Estate and Valuation at the University of Sri Jayawardenapura on 12th December 2015

December 13, 2015 Posted by | Condominium properties Sri Lanka, Land & Properties, sri lanka, Uncategorized | , , , | Leave a comment

What ails the condominium industry in Sri Lanka?

WHAT AILS THE CONDOMINIUM INDUSTRY IN SRI LANKA?
By Ajithaa Edirimane

Is condominium living really the ‘dream’ or is it a ‘nightmare’? Are prospective buyers aware of the restrictive nature of condominium living and rules that need to be complied with as a co-owner of common property? Are buyers dealing with honest developers who are transparent in their dealings? Are the problems of condominium dwellers addressed efficiently by the regulator? Is the current law adequate to address the problems of the condominium industry?

Laws governing condominium properties require more teeth
In one particular condominium property there are complaints from unit owners of serious defects in construction, with floor tiles coming off and cracks appearing on the external wall. The council does not have the funds to attend to repairs and blames the developer for the defects. The developer is not unduly concerned since title deeds were issued to all unit owners. In another mixed development condominium property, the unit owners are prohibited from using the main entrance as the developer has leased part of the common areas and the main entrance to a third party, in spite of having no right or authority to do so.

Legality of the agreements
A common practice of developers in pre-selling units is to offer a section of the building depicted as an apartment on a rough sketch and collect advance payments for the so-called ‘condominiums’ more often priced as high as Rs. 20 million. These are merely illustrations seen only on paper and are not legally divided and defined condominiums registered at a Land Registry or at a Title Registry. Such sales agreements are mostly one sided benefitting the developer. The prospective buyer, yearning to acquire one of the beautiful apartments illustrated on a glossy brochure, accepts the terms offered by the developer not wanting to risk losing the apartment.

The Apartment Ownership Law does not have provisions to safeguard the interests of unwary buyers in similar situations. Neither does the law impose mandatory obligations on developers to disclose issues which impact on the prospective buyer’s ownership, such as; the developer’s background, funding for the project, estimated date of completion, whether the project will be expanded with additional units added to the project, the rights of unit owners if expansion takes place, etc. Many are the instances when unsuspecting buyers have got caught to developers who have defrauded buyers more than once and continue to do so with impunity.

On the other hand, the law does not make it easy for developers to implement major multi-storey projects, whether it is mixed development or residential, due to the cumbersome registration process. Sri Lanka has a unique registration system, where a developer is compelled to register a subdivided building at least twice to bring it into the ambit of the law — firstly, to enable pre-sales of units, registration as a Provisional Condominium Property; secondly, upon completion of construction and issuance of the Certificate of Conformity, registration of the subdivided building as a completed Condominium Property. Not only is this procedure cumbersome, it is also costly when a single registration should be adequate. Consequently, a majority of developers refrain from registering the Provisional Condominium Property. Pre-sales of units thus take place without referring to a registered plan and without a legally recognised subject matter. Even banks tend to disregard this important requirement and register tripartite agreements on the main land on which the building is constructed, encumbering all units of the subdivided building in the process.

Regulations and regulator
That there are no regulations to aid the implementation of the law has made matters worse. The Common Amenities Board (Amendment) Act No. 24 of 2003 vested series of powers on the Condominium Management Authority (CMA) to cover condominium properties under Sec. 5(a) to 5(o), but without regulations to enable the implementation of the said powers.
Another grey area, which necessarily should be clarified by regulations, is the procedure to be followed when changes take place within a registered condominium property. Sometimes unit owners wish to expand a common area or amalgamate two units as one. When such changes are contemplated and an application is made to the municipal authority for approval, the practice is to insist on a costly revised Building Plan of the entire condominium property, when a revised condominium plan with details of the area to be changed should suffice, especially since the subdivided building has already been registered as a condominium property and the changes are within the foot print of the constructed and completed condominium property. It is the duty of the CMA as the Regulator to take an informed decision on these matters and simplify the procedure by gazetting relevant regulations.

If the law is silent on the procedural matters, the regulations should fill the void. That has happened neither under the Common Amenities Board (Amendment) Act No. 24 of 2003 nor under the Apartment Ownership Law No. 11 of 1973 and its amendments. The CMA gives its own interpretations to the law, which is not a function of the regulator nor is it provided under the statute.

Conclusion
The condominium industry is no longer in its infancy. The principle enactment came into being in 1973 with two important amendments in 1982 and 2003. But there are still many areas that the law has not addressed. Added to that, no regulations have been issued to date to implement the provisions of the law which have not only caused confusion to unit owners but also made the task of the regulator difficult.
In the meantime, we see a boom in condominium properties, with many developers taking up construction of new subdivided buildings. Similarly, owners of both small and large multi storey buildings are converting them to condominium properties without being fully aware of legal implications. Revising the law, introducing regulations and making the regulator effective with training for its staff, are all crucial for condominium properties to be a good investment option as well as to make them risk free and safe for prospective buyers.

(The writer is an Attorney-at-Law)
http://www.sundaytimes.lk/150308/sunday-times-2/what-ails-the-condominium-industry-in-sri-lanka-139147.html

This is an article which was published in the Sunday Times in March 2015)

April 23, 2015 Posted by | Condominium properties Sri Lanka | , , , , | 2 Comments

Resumption of Dual Citizenship

The Department of Immigration and Emigration of Sri Lanka has resumed the granting of dual citizenship. This is a benefit looked forward to by many former Sri Lankans who acquired foreign citizenship and thereby lost Sri Lankan citizenship. Please refer the website of the Department of Immigration and Emigration (link given below) for details and application forms.

http://www.immigration.gov.lk/web/index.php?option=com_content&view=article&id=299&Itemid=214&lang=en

The recently implemented law on land acquisitions (i.e. Land (Restrictions on Alienation) Act No. 38 of 2014 ) prohibits the acquisition of immovable properties by foreign citizens. Exemptions are given in Sec. 3 of the said Act. The restriction will not apply for those foreign citizens who have obtained dual citizenship. The effective date of operation of the Act is 1st January 2013.

Regarding condominium properties, the above mentioned restriction will not apply to foreign citizens who acquire condominium units above the 4th floor of a building (excluding the floors containing common elements), provided the entire sale price is paid upfront by foreign remittance prior to the execution of the Deed of Transfer.

March 24, 2015 Posted by | Condominium properties Sri Lanka | , , , , , , | Leave a comment

Focusing on the issue of Title in Condominium Properties

Presentation at the International Public Seminar titled
“Property Development & Real Estate Investment in Sri Lanka”
held at the BMICH, Colombo on 25 April 2014
organized by the Institute of Valuers of Sri Lanka

 

 

FOCUSING ON THE ISSUE OF TITLE IN CONDOMINIUM PROPERTIES

Condominium properties or multi storey buildings are an important feature of Real Property development. Especially in urban areas where land is limited with inadequate housing for the increasing population, multi storey buildings subdivided as condominiums have been the solution for urban housing. In an emerging economy, condominium living can be an attractive housing option if issues of concern faced by buyers can be minimized.
The main issues of concern are connected to the following areas:
1. Title of the condominium unit & registration of the condominium property.
2. Administration, maintenance and management of the condominium property.

Introduction – concept of ‘condominiums’
In Sri Lanka, Roman Dutch Law applies to Real Property. In terms of the principle supeficies solo cedit, which literally means – ‘anything attached to land goes with the land’ – the owner of a land would own anything built upon it. Thus we have a ‘vertical ownership’ over land from the deepest bowels of the earth to the heavens above.
The vertical ownership related to land was amended by statute, initially by the Condominium Property Act No. 12 of 1970 which was repealed and replaced by Apartment Ownership Law No. 11 of 1973. The said statute created a new concept of ownership of Real Property, that is, ownership of horizontal layers of a building. The important requirement for such ownership to come into existence is the registration of the subdivided building under the provisions of the statute.
The legislation which created this new concept of Real Property can be listed as follows –
• Condominium Property Act No. 12 of 1970 (repealed)
• The Apartment Ownership Law No. 11 of 1973 (Principle enactment) This Act was subsequently amended by the following statutes:
• Apartment Ownership (Amendment) Act No. 45 of 1982
• Apartment Ownership (Special Provisions) Act No. 4 of 1999 & Apartment Ownership (Special Provisions) Act No. 27 of 2002
• Apartment Ownership (Amendment) Act No. 39 of 2003

Dual ownership
Registration of a subdivided building as shown on a plan of subdivision (i.e. provisional condominium plan, semi-condominium plan or a condominium plan) according to the Apartment Ownership Act leads to the creation of several apartments or units depicted in the plan as separate ‘freehold property’. Each such unit referred to as a “condominium” is located within a building of more than one storey, enabling individual ownership of the unit designed for independent use (which can be divided into one of more rooms) with direct exit to a road or to a common area leading to a road.

A condominium unit owner would also have joint ownership of the Common Elements (i.e. all areas which do not form part of any condominium unit in a Condominium Property and which are described as Common Elements in a Plan of subdivision). The joint ownership is based on the ‘Share Values’ assigned to each unit. Currently, the Act does not indicate how share values are to be assigned to units, except providing in Sec. 13(3) of Act No. 39 of 2003 that share values are assigned according to the ‘use of the said condominium, whether residential or commercial, as the case may be’. This definition is not clear and does not indicate whether there should be a higher share value for commercial condominium units or vice versa. Though this appears to be an area where comparably less attention had been given by the drafters of the law, it is however, a feature which can make a significant impact for condominium dwellers as share values determine the amount of service charges that should be paid by individual unit owners, their respective voting rights at meetings of the Management Corporation and also the allocation of residual property in the event of a destruction of the subdivided building.

Another interesting feature is the creation of a Management Corporation with all unit owners as ‘Members’ of the said corporation upon the registration of the subdivided building as a condominium property. It has a Constitution and By-laws and can sue and be sued like any other corporate body. This concept, with the individual ownership of the condominium unit, joint ownership of common elements and membership of Management Corporation has sometimes been referred to as a ‘three fold unity’ of condominium properties. One entitlement cannot exist or be considered separately from another, as a unit owner will automatically be entitled to all three elements. Having thus briefly considered the concept of ‘condominium properties’ we can now explore the issues that concern buyers and sellers of this type of Real Properties.

1. Title to the condominium unit and registration of the condominium property –
A major issue that confronts condominium buyers is the ‘title’ to the condominium unit. This is linked to the existence of the ‘subject matter’ in a Real Property transaction.

The ‘subject matter of sale’ is an important element in the sale of a property. In the absence of a subject matter there cannot be a legally binding transfer, even if there is unanimity between parties to the transaction. Thus in a sale of immovable property, the subject matter of the transaction should be in existence for title to pass to a buyer upon payment of valuable consideration. If one enters into a sales agreement for the sale of land X without knowing that there is no such block of land in existence or indicated in a survey plan, then the sales agreement will be void due to the absence of the ‘subject matter’.

A condominium property comes into existence with the registration of the Deed of Declaration along with the Condominium Plan describing the individual condominium units and the common elements of the building, duly executed under the hand of the owner/s of the land, attested by a Notary. The Deed of Declaration embodies a vast amount of information as contained in a number of documents attached to the Declaration, the principle one of the said documents is the plan of subdivision. This is referred to as a ‘Condominium Plan’ in respect of a completed building, a ‘Semi Condominium Plan’ in respect of a partially constructed building and a ‘Provisional Condominium Plan’, in the case of a building which is yet to be constructed.

Only upon the registration of the Deed of Declaration and the corresponding plan of subdivision dividing the building into separate units, will such condominium units be considered separate from the land to which the building is attached to and constitute immovable property that can be the subject matter in a condominium property transaction. Therefore, title cannot pass to a buyer of a condominium unit unless and until the subdivided building has been registered in terms of the Apartment Ownership Act giving recognition to condominium units reflected in the plan of subdivision as individual immovable property.

Deeds can be executed relating to segments of a building which have not been registered as a subdivided unit. But in the absence of registration of the same as subdivided freehold units, title that vests with the transferee will only be a co-ownership of the building. In Mallika Fernando vs Nagesh Fernando (C.A. 979/79 DC Colombo 16894/L : March 26, 2001) it was held that non registration of a condominium property will not invalidate a legally binding Deed of conveyance under which sections of a building had been gifted to different parties. In this case, the plaintiff and defendant had both signed and accepted a Deed of Gift of the Donor whereby sections of a building, which were not properly subdivided under a registered condominium plan, had been gifted to the donees. They were thus considered to be co-owners of the building and not as owners of individual units.

Consequences of acquiring unregistered ‘condominium units’:
Let us consider a situation where a conditional sale of a ‘condominium unit’ takes place with a mere reference to the unit in the Sales Agreement, which incidentally, is not a title deed. This is the general practice of Property Developers in Sri Lanka if there are impediments or delays to the registration of the Deed of Declaration and Plan of subdivision. In order to comply with Sec. 2 of the Prevention of Frauds Ordinance, which requires a sale of immovable property to be in writing and signed in the presence of a licensed Notary and two or more witnesses, the Sales Agreement attested by a Notary is thus registered under the main land upon which the building is constructed. The consequences of this registration can be given as follows:

i. It does not result in a transfer of title but remains a conditional sale as it is merely an ‘agreement’ between parties. Therefore, the prospective purchaser will not acquire ownership of his / her condominium unit even if he/she has paid the sale price in full.

ii. In the event the project fails, recovery of payments made by the prospective purchaser will be difficult as the land upon which the sale transaction is registered would be mortgaged to financiers as collateral.

iii. In the event the building is destroyed or damaged, the insurance proceeds will be released to the owner of the land or to the financiers to whom the property is mortgaged and the prospective purchaser/s of the building under Sales Agreements will have no right or title to claim compensation.

iv. In the absence of registration, the prospective purchasers occupying units within the building will not constitute a body corporate referred to as a Management Corporation that normally comes into existence upon the registration of the condominium property. The prospective purchasers hold no right or authority over the common elements of the building and accordingly, are not entitled to an undivided portion of the common elements due to the absence of valid title to a condominium unit within the building. On the other hand, this is also disadvantages to the Developer or the Owner of the building as he has no statutory right or authority to charge fees for the use of the maintenance of common areas without the sanction and approval of the occupants of the building in the absence of a legally constituted body corporate, similar to a Management Corporation.

It has come to light that many occupants of condominium units of completed projects have only a Sales Agreement even after one year of occupation preventing them from claiming ownership over the condominium unit for which millions of Rupees have been paid as full settlement of the sale price. In most cases, the prospective buyers have been compelled to pay the full sales price, under the threat of losing their condominium unit if the installments are not paid on the due dates. The full amount is thus paid benefiting the Developer/ Vendor, whilst the prospective purchaser gets only a possessory right over his/ her unit. It needs to be mentioned here that the Apartment Ownership Act No. 39 of 2003 has addressed this type of issues and has made it mandatory for the Developer/ Vendor to transfer title of the property as stipulated in Sec. 3(2) of the said Act.

Sec. 3(2) compels the Developer or the owner of a land upon which there is a completed building capable of being subdivided, to register the property as a subdivided property if he has entered into a transaction to sell any part of the said building as a subdivided unit. The application for registration should be submitted within 18 months from the date of the first sales agreement or within 3 months of completion of the building, whichever occurs first. In the event, the sale occurs after the completion of the building, the application for registration should be submitted within 6 months from the date of completion of the building. Any person who contravenes the provisions of the Act is guilty of an offence under Sec. 3(2) and 3(3) of the Act and is liable on conviction after summary trial before a Magistrate to a fine not exceeding Rs.50,000/- and a further fine of Rs.1000/- per day for each day the offence continues to be committed. Considering that no attempts have been made by many occupiers in condominium properties who are yet to receive their title deeds to take action in terms of Sec.3(2), it is apparent that there is still a lack of awareness among condominium dwellers as to their rights both prior to and after the purchase of a condominium.

The Apartment Ownership Law has not stipulated criteria to be fulfilled by Developers who engage in pre-selling. It can be said that the lacuna in the law as well as the ignorance of prospective purchasers have paved the way for unscrupulous Developers to exploit this situation to their advantage. It is common to see pre-selling of condominiums even without obtaining vital regulatory clearances. Some are never registered as the Developers who are also the owners of the land, have left the country. An amendment to the Act should impose conditions to be observed by Developers prior to pre-selling of units, such as Disclosures relating to important conditions stipulated in Sales Agreements, deposit of advance payments in Escrow Accounts till the building is completed up to a certain minimum level, rights of termination of a Sales Agreement and refund of funds, proposed project completion date, facilities provided to unit owners, proposed by-laws of the condominium property, etc., Without such transparency in multistory property development projects, there will be many innocent purchasers who would repent after parting with their hard earned money.

Another statutory requirement for the proper transfer of title is the need to register all condominium units under the Registration of Title Act No. 21 of 1998, (RTA) if the building is constructed in a Province or Administrative District where the said Registration of Title Act is enforced. (i.e. Sec. 44 and 45 of the Apartment Ownership Act No. 39 of 2003). By Gazette No. 1508/20 dated 1 August 2007, application of the RTA was extended to all provinces except the North and the East. Therefore, in terms of Sec. 44 and 45, currently there is a mandatory requirement to register all condominium properties under the RTA (except in the North and East). But since Title Registries are yet to be established in all areas to which the Gazette Notice applies, the statutory provision requiring registration of subdivided buildings under the RTA has now become a pointless mandatory requirement in Districts where there are no Title Registries. (e.g. Colombo). One could therefore question the validity of registration of a subdivided building solely under the Registration of Documents Ordinance considering the above mentioned application of Gazette No.1508/20.

2. Administration, maintenance and management of the condominium property
Many of the problems that are currently faced by condominium dwellers arise over the management of the condominium property, in other words, “management of common elements”. This is an area which has not been adequately addressed in the Apartment Ownership Act leaving room for Developers to continue to operate the building as if the ownership of common elements are vested in them.
Some of the common problems faced by unit owners due to Developers continuing to control and manage the common elements –

i. Use of common areas by Developers for their private purposes, (i.e. as office space, storage space or in certain instances, to construct apartments carved out of common areas in the basement)

ii. Use of parking space for their own private commercial operations.

iii. Collecting service charge/maintenance fees from owners of other units but not in respect of the units which are unsold and remains the property of the Developer.

iv. Failure to release to unit owners a budget depicting the proposed income and expenditure relating to the management of the common elements and the Service charge per share value based on such budget. It is not uncommon for Developers to decide on the Service Charge according to their preferences and to credit such sums collected to their own bank accounts, whereas the Act specifically refers to the need to create a Management Fund for day to day operations and a Sinking Fund for capital expenses.

Freehold title of unit and joint ownership of common elements should be assessed as ‘one entity’ –
As pointed out earlier, when one purchases a condominium property, it is not only the freehold ownership of the subdivided unit that one acquires but also the joint ownership of the common elements of the entire property. The freehold title of the unit along with the common rights over the jointly owned common elements should therefore be assessed as ‘one entity’. Not only are some Developers ignorant of that fact, but owners of condominium units are also in general, unaware of the extent of their ownership. This situation is exploited by Developers who, even after selling all the units, continue to have a hold over the condominium property by controlling the management of common elements and in certain instances, even crediting the service charge / maintenance fee to their own private accounts.

There are currently several registered condominium properties which do not have an operational or fully functioning Management Corporation, though it comes in to existence with the registration of the subdivided building. Since Sec. 27(3) of Act No. 39 of 2003, provides that the Condominium Management Authority (CMA) shall convene the 1st AGM, some Developers intentionally continue with the management of the common elements blaming the statutory body for its failure to convene the AGM. In my view, the holding of the 1st AGM and the appointment of the Council is an internal matter to be handled by the members of the Management Corporation. The Act needs to be amended to make it mandatory for the Management Corporation (and/or the Developer who holds all the units immediately upon the creation of the MC) to convene the 1st AGM within 3 months of its establishment. A failure of this important requirement should be a punishable offence.

The concept of ‘time share’ for investment in condominium properties –
Time share condominiums are generally used for vacation purposes by retirees and semi-retirees who wish to regularly visit a particular country or place for a short period during a certain time of the year. This is a method adopted in recent times in developed countries where there are applicable laws to address the issue of ownership, limited property rights and liabilities for maintenance fees as applicable to ‘time share’ condominiums.

In Sri Lanka, there are no specific provisions in the Apartment Ownership Law and its amendments addressing the ‘time share’ aspect of ownership of condominiums. Under such circumstances, in the absence of statutory provisions, a Developer embarking on a condominium project to offer potential purchasers a unit on a ‘time share’ basis, would have to necessarily work within the prevailing statutory and legal provisions to ensure that the project achieves its desired goals.

For example, to grant several unit owners limited rights of ownership of a unit (either the same or a different one in the condominium property), all unit owners should only be co-owners of an undivided share of the entirety of the units. A unit owner who has an absolute freehold title can prevent others from using his unit during his absence. On the other hand, if all are merely co-owners of an undivided share of the condominium property, by entering into an agreement they can decide on the manner in which a unit can be used by each person, the time and duration of use and the share of maintenance fees that should be taken up by each individual co-owner. Accordingly, the title deeds issued to a ‘time share’ owner would reflect his entitlement to the condominium property as a ‘co-owner’ of a specific undivided percentage of all the units described in the Schedule of the Deed and the Rules subject to which his co-ownership rights can be exercised. For the ‘time share’ concept to succeed in Sri Lanka, there should also be a fully operational Council of the Management Corporation consisting of representatives of the ‘time share’ owners or a Managing Agent who would be answerable to the Council. When the law is silent, Developers need to be guided by proper legal advice when adopting new concepts such as ‘time share’ ownership.

In developed countries, there are stringent laws to safeguard the rights of apartment owners which evolve over time addressing new issues as they come up. This is lacking in our country as Act No. 39 of 2003, being the last amendment, is woefully inadequate to address problems of modern times.

Ajithaa Edirimane LLB (Colombo) MLB (Hamburg),
Attorney-at-Law & Notary Public

April 25, 2014 Posted by | Condominium properties Sri Lanka, Land & Properties, Law & Governance, Property Title | , , , , , , , , | 2 Comments

Protect your property from land scams

PROTECT YOUR PROPERTY FROM LAND SCAMS

This slide presentation highlights the emerging problem of land scams in Sri Lanka. It draws attention of buyers, owners, notaries and authorities to what should be done to stop land scams and gives tips to safeguard the rights of buyers and owners of properties.

March 20, 2014 Posted by | Land & Properties, land fraud, Law & Governance, sri lanka | , , , , , , , , , , | 4 Comments

Condominium Properties in Sri Lanka – Slide presentation with more examples..

Condominium Properties in Sri Lanka – Issues of concern for buyers and sellers  – This slide presentation is from the lecture given at the Real Estate Conference organized by the Centre for Banking Studies of the Central Bank of Sri Lanka, Urban Development Authority and the Institute of Real Estate and Valuers, held on 6 & 7 October 2011 in Colombo.

 

November 12, 2011 Posted by | Condominium properties Sri Lanka, Land & Properties, Law & Governance, sri lanka | 2 Comments