The Companies Act 2013, passed in August last year, has taken a giant leap forward towards rationalizing the manner in which the “squeeze-outs” of minority shareholders are executed. The Act has introduced Section 236 which provides an exit route in case a shareholder reaches 90% for any reason, including by virtue of an amalgamation, share exchange or conversion of securities, among others.

Section 236 requires mandatory notification to a company by an acquirer or “a person acting in concert with such acquirer” (as such terms are defined in the SEBI Takeover Code Regulation 1997) on becoming a registered holder of 90% (or more) equity shares of a company. This is done in order to convey its intention to buy the remaining equity shares from minority shareholders. Since the draft rules issued by the government under the Act do not prescribe any format, the notification can be made through a letter as well.

Further, Section 236 (2) provides that the price at which the shares are acquired shall be determined on the basis of a valuation to be undertaken by a ‘registered valuer’.

This includes a chartered accountant or a cost accountant or a company secretary. For listed companies, the offer price must be determined in the manner as may be specified by the Securities and Exchange Board of India (SEBI) by making regulations in this regard. For unlisted and private companies, the offer price is to be determined by taking into account the following factors:

• The highest price paid by an acquirer for acquiring shares during the last 12 months, if any;
• The fair price of shares of the company with regard to return on net worth, book value of shares, earning per share, price earning multiple vis-à-vis the industryaverage and such other parameters as are customary for valuation of shares of such companies.

The registered valuer is required to provide a valuation report to the Board of Directors of the company, together with justification for the valuation.

To protect the interest of the minority shareholders, Section 236 (3) enables minority shareholders to make a counter offer. In such a situation also, the registered valuer must determine the price of the shares on the basis of the valuation guidelines as mentioned above.

Further, Section 236 (8) provides that if, on the date of transfer or prior to the date of transfer, 75% (or more) minority shareholders negotiate a higher price, “the majority shareholders shall share the additional compensation so received by them with such minority shareholders on a pro rata basis”.

Once the offer price of the shares is determined pursuant to Section 236 (2) or 236 (3) (i.e. pursuant to the counter offer), the acquirer must deposit an amount equal to the value of shares to be acquired by them in a separate bank account to be operated by the company for at least one year. A period of one year has been provided in order to meet eventualities, such as, for instance, where a shareholder is not able to take benefit of selling his shares or has not received the money for any reason.

However, since the company is required to act as a transfer agent i.e. pay the price to the minority shareholders within 60 days and collect share certificates and deliver them to the acquirer, it can take measures such as delivering share certificates internally to expedite the process.

In case a minority shareholder accepts selling his/her shares but fails to deliver the share certificate within the time specified by the company, such shares shall be deemed to have been cancelled. The company is then authorized to issue new share certificates to the acquirer.

In case the minority shareholder dies and the transmission to the legal heirs is not completed within time, legal heirs have been empowered with the right to sell the shares to the acquirer within three years from the date of majority acquisition.

While the Section is intended to provide a fair exit route to minority shareholders while assisting the majority (90%) shareholder in consolidating its ownership, some of the issues that need clarity and fine-tuning while finalizing the Draft Rules can be:

• It needs to be made clear as to who the company will appoint the registered valuer in all situations, including where there is a counter offer by minority shareholders although the fee payable to the registered valuer can be collected by the company from the acquirer.
• Currently, the Foreign Exchange Management Act, 1999 (FEMA) requires the ‘discounted cash flow’ method of valuation to be followed in case of sale or purchase of shares between ‘resident’ (Indian) and ‘non-resident’ (foreign) persons. To avoid any inconsistency in valuation requirements under FEMA and the Companies Act, it should be clarified that in the case of an unlisted company or private company, where the acquirer is a foreign company, the valuation shall be as required under FEMA.
• There is an ambiguity in the language of Section 236 (8) relating to the payment of compensation to the minority shareholders in case 75% (or more) of minority shareholders (i.e. ‘majority of the minority shareholders’) negotiate or reach an understanding on a higher price. Section 236 (8) provides that “the majority shareholders shall share the additional compensation so received by them with such minority shareholders on a pro rata basis”. A literal interpretation suggests that 75% (or more) of the minority shareholders must share the “additional compensation so received by them” with other minority shareholders on a pro rata basis.

So interpreted, this sub-section is intended to deter direct negotiation with the acquirer by the ‘majority of the minority shareholders’. If, however, the intention is that the acquirer must pay such higher price to all other minority shareholders, then Section 236 (8) does not achieve this objective because: (i) the language does not clearly spell out this objective; and (ii) there is no provision requiring the acquirer to deposit the higher price (negotiated by the ‘majority of the minority shareholders’) in the bank account referred to in Section 236 (4) since that sub-section makes no reference to Section 236 (8). The Ministry of Corporate Affairs should issue a circular to clarify these doubts in order to avoid unnecessary controversy in the future.