The article discusses the most common and acknowledged form of corporate restructuring….
In their pursuit to grow and to attain certain strategic and financial synergies, companies go for corporate restructuring. Another underlying aim for corporate restructuring is to settle family dispute of the promoters’ inter se or to enter into compromise between the company and its shareholders or creditors. The subject ‘Corporate Restructuring’ is of immense importance to every corporate professional and entrepreneur to understand and apply in the ever changing economic scenario.
Corporate restructuring is a wider term, which encompasses a complete set of tools to transform existing organisational structure or capital of a company, in order to achieve its corporate objectives. Some of tools or modes of corporate restructuring are mergers or amalgamations, demergers, slump sale, takeover, disinvestment, joint ventures, buy back and sale of assets simpliciter. The article discusses the most common and acknowledged form of corporate restructuring – Mergers or Amalgamations.
In common parlance, mergers or amalgamations are synonymous to each other and are used interchangeably. Amalgamation means unification or fusion of two or more than two existing companies into one single company. Merger or Amalgamation has not been defined under the Companies Act, 1956 (the ‘Act’). However, the procedure to carry out a compromise or arrangement, which includes merger or amalgamation is explicated under the provisions of Sections 391-394A of the Act.
In PMP Auto Industries Ltd; the Bombay High Court held that once a scheme of compromise or arrangement squarely falls within the ambit of Sections 391 to 394A of the Act, the same could be sanctioned, even if it involves doing acts for which procedure is specified in other sections of the Act. Therefore, Sections 391-394A of the Act are a complete code in itself. Its object is to effectively implement the scheme of compromise or arrangement or amalgamation (‘Scheme’) as a single window clearance, which the court sanctions in exercise of its powers under Section 394 of the Act.
“If any one of the companies is a listed company, then the ‘Scheme’ has to be filed with the concerned stock exchanges at least one month before it is filed in the court. It is to be noted that the Listing Agreement requires that the ‘Scheme’ be filed with the stock exchange, a month before the same is filed in the High Court for approval, and it does not mandate that the sanction of the Stock Exchange has to be received before filing of the ‘Scheme’.”
George Bernard Shaw stated that “Progress is due to the unreasonable person. The reasonable person adjusts to the world around. The unreasonable person seeks to change that world.” This is manifested in the changes witnessed in the corporate sector. The paradigm shift of the Indian economy from a strictly regulatory regime towards liberalisation and the impact of globalisation on it has energised corporate restructuring in this country which includes mergers and amalgamations, de-mergers, slump sales, takeovers and acquisitions, sale of specific assets and capital reconstruction. Restructuring has been found essential for a company to survive a currently adverse economic climate and at times to avoid a takeover by dismantling and rebuilding deficient areas to improve a company’s profitability and efficiency to keep pace with the changing competitive environment necessitates.
Sections 391 to 394 of the Companies Act, 1956 provide a legal framework for corporate restructuring which vest the court with the power to consider the restructuring scheme and ascertain as to whether the scheme is just, fair, reasonable and not contrary to the provisions of law and it does not violate public policy. The scheme has necessarily to be based on share and asset valuations which can stand the tests of fairness. The exercise has to be tax efficient and take into its purview all implications under the taxing and regulatory statues. The process which is undertaken has to be so designed that it does not in any manner compromise on the core values of the merging entities and is sufficiently concerned with the interests of all stake holders which should include the shareholders, creditors as well as the human resource issues relating to employees.
In addition to the aforesaid sections of the Act, Rule 67 to 87 of the Companies (Court) Rules, 1959 (Company Rules) lay down the complete details of the procedure to be followed for giving effect to a ‘Scheme’. There are certain clauses of the listing agreement such as 24(f) and 24(h) to be kept in mind while executing a ‘Scheme’ for any listed company.
First of all, a ‘Scheme’ is formulated between the companies involved in the arrangement. ‘Scheme’ is a document containing complete details of the compromise or arrangement agreed upon between the companies, their members and creditors. The process to make the ‘Scheme’ effective starts with its filing with the High Court of the State, where the registered office of the company is situated and ends with filing of the High Court’s order with the Registrar of Companies (ROC). The company that transfers its assets and liabilities to the other company is called the ‘Transferor Company’ and the company into which the ‘Transferor Company’ merges or transfers its assets and liabilities is called, the ‘Transferee Company’.
Valuation of the shares of all the involved companies forms an integral part of the ‘Scheme’. On its basis only, it is calculated that how many shares in the ‘Transferee Company’ are to be received by the shareholders of the ‘Transferor Company’. Once the ‘Scheme’ is passed by the board of directors of all the companies involved, the procedure can be initiated.
Moreover, Dinesh Kaushal*, CFO and Company Secretary, Tulip Telecom Ltd. explains, “If any one of the companies is a listed company; then the ‘Scheme’ has to be filed with the concerned stock exchanges, at least one month before it is filed in the court. It is to be noted that the listing agreement requires the ‘Scheme’ to be filed with the stock exchange. A month before the same is filed in the High Court for approval. It does not mandate that the sanction of the stock exchange has to be received before filing of the ‘Scheme’.”
In the matter of Indo Rama Textiles Limited and Spentex Industries and Others and in the matter of CLC Global Limited and Spentex Industries Limited, the Delhi High Court has observed that there is no requirement for taking the consent of the stock exchanges, under the Act or in the Company Rules. Besides this, SEBI has, by way of a recent insertion in clause 24(h) of the listing agreement, made it mandatory for obtaining a fairness opinion from a merchant banker over the valuation done by the valuers.
Once the ‘no objection’ of the stock exchange(s) is obtained or the period of one month after filing the ‘Scheme’ with the stock exchange(s) has elapsed; a first motion application or petition for convening or dispensing with the meetings of each class of shareholders and creditors of the companies, involved in the ‘Scheme’, is filed with the High Court(s) having requisite jurisdiction. Meetings are convened if ordered by the court, wherein approval of majority representing ¾th in value of
“Interestingly in a scheme of amalgamation where the ‘Transferor Company’ is a profit making wholly owned subsidiary of the ‘Transferee Company’, there is no requirement of convening the meetings of shareholders or creditors of the ‘Transferee Company’ because their rights are not affected by the said amalgamation. In that scenario, the ‘Transferee Company’ is not even required to approach the Court to get the ‘Scheme’ sanctioned.”
Many Asian (especially, South Asia and Asia Pacific) and East European countries have become major play grounds for M & A activities. These are diverse regions, having strong and ever growing economic growth with a huge natural resource and cheap labour. Even following the principles of economics, M & A thrives more in developing economies as against developed.
Improved market access, growth of a country’s economy, conducive investment mechanism, efficient regulatory laws, which tend to promote fast track entry as well as exit, growth potential and expected returns post merger or amalgamation can be some of the factors to affect the M & A activities in a country.
Recession in an economy can have both positive as well as negative effects on the M & A activities of any given country. Some of the negative effects of recession can be reduced investment and risk appetite, reduced liquidity in the market, reduction in the value of enterprises, increased gap between demand and supply, thereby less M & A deals may occur.
Some of the positive effects can be that companies may try and invest more in knowledge management within their organisation. As a result, the efficiency levels of the employees may increase, cost cutting may lead to reduction in superfluous expenditure and companies may try and manage themselves in a better manner.
As I understand from some sources that despite economic slowdown, the total number of M&A deals in India, during the first six months of the year 2009, stands at 123 with an announced value of $4.88 billion as against 269 deals. This has amounted to $16.10 billion during the corresponding period in 2008. Merger and acquisition activities in the country have gained momentum with the total deal volume in June, touching $850.62 million, much higher than in May. There were thirteen domestic deals, where both acquirer and target companies were Indian with an announced value of $587.74 million and many crossborder deals valuing at $262.88 million during the month. Three of the cross border deals were outbound deals, where Indian companies acquired business outside India with a value of $139 million.
No, I do not think that M & A in India are over regulated. On the contrary, they are adequately regulated. In fact, the M & A regime is automatic in respect of private limited companies; regulations mainly exist for listed companies, which is of paramount importance for the interest of the public shareholders and stakeholders. Regulation governing mergers are more complicated in countries suchas the UK and the USA.
Yes, it is true. The value increases for both the transferor as well as the transferee company depending on the motive of the merger or acquisition. The output or efficiency increases depending on the kind of merger, whether it is horizontal or vertical. They help in enhancing competition and increases market control. It is simple economics, where two companies come together to reduce cost of production and thereby increasing their profits per unit of production.
They must conduct a proper cost benefit analysis before cracking any kind of deal, keeping in mind the long term benefits due to such merger. They must work towards maximising the value for shareholders.
Let me talk about an ongoing M & A, where I am advising a large MNC on acquisition of a medium scale Indian company; the main issues or apprehensions, which strike the acquirer are: (i) HR issues i.e. labour issues; (ii) Credibility of business evaluation; (iii) Title of immovable and movable assets; (v) Corporate compliances; (vi) Synchronisation of federal and provincial laws; and (vii) Enforceability mechanism for contracts. First and foremost, I advise on thorough due diligence; secondly, I advise on a list of conditions precedent to a transaction and finally, structuring a comprehensive but composite documentation with a bank indemnity or bank guarantee (wherever possible) to take care of unforeseen problems.
The main sectors in India, which generally resort to mergers, are Pharmaceuticals, FMCG, FMCD, Banking and Financial sector, Auto and auto components, IT sector, Steel, Aluminium and Textiles.
Domestic M & A are more successful than cross-border M & A due to differences in the corporate culture. It is harder for two entities to merge into one when the differences in corporate culture are more. Domestic mergers are not very profit oriented but they are more value oriented and lay more emphasis on the presence in the demand-supply chain in the market or economy.
shareholders and creditors present and voting is required. If meetings are dispensed with on the basis of prior written no objection letters of the shareholders and creditors of all the companies involved in the ‘Scheme’, then a second motion petition is filed with the High Court(s), seeking sanction to the ‘Scheme’.
In the matter of HCL Infosystems Ltd case, the Delhi High Court dispensed with requirement to convene and hold meetings of the shareholders, secured creditors and the unsecured creditors of the ‘Transferee Company’, filing of the second motion petition by the ‘Transferee Company’.
Sushil Kumar Jain*, DGM & Company Secretary, HCL Infosystems Ltd. states, “Interestingly in a scheme of amalgamation; where the ‘Transferor Company’ is a profit making wholly owned subsidiary of the ‘Transferee Company’, there is no requirement of convening the meetings of shareholders or creditors of the ‘Transferee Company’ because their rights are not affected by the said amalgamation. In that scenario, the ‘Transferee Company’ is not even required to approach the court to get the ‘Scheme’ sanctioned.” This proposition is really beneficial in cases where the jurisdiction of merging companies lies with different High Courts.
Once the ‘Scheme’ is approved by the shareholders and the creditors of the companies involved, then a second motion petition is filed with the High Court, primarily to sanction the ‘Scheme’ and in the meantime, to issue notice to the Regional Director (R.D.) and the Official Liquidator (O.L.) attached to the High Court.
The R.D and the O.L., on the basis of information submitted by companies, file their report or affidavit about veracity of the ‘Scheme’. Notice of the final hearing needs to be published in English and in a regional language newspaper of wide circulation in the state, where the registered office is situated. Thereafter, if the court is satisfied that the ‘Scheme’ is not prejudicial to the interest of shareholders or creditors, is not against the public policy and there are no tenable objections raised by the authorities, then the court tends to sanction the ‘Scheme’. The certified copies of the court order are to be filed with the concerned ROC within thirty days upon approval or within the time specified in the order, so as to make the ‘Scheme’ effective and binding on all concerned.
The term backdoor listing has not been defined anywhere in the Act. However, it could mean a technique used by a company to list its securities without coming out with any public offer. In other words, this is a route available to a company for becoming a listed entity. In order to list the shares of an unlisted company, one way available is to merge the unlisted company with a listed company thereby, listing the shares to be issued by transferee listed company to the shareholders of unlisted transferor company.
Other way available for listing the securities of a company without loosing the identity of unlisted company, is to demerge one or more undertakings of a listed company into unlisted company(ies), getting the said unlisted company(ies) listed on the stock exchanges without following the process of making any public offer.
Lalit Jain*, Vice President, Jubilant Organosys Ltd. clarifies, “There are many reasons for companies to take recourse to the
Indian economy has moved from a bureaucratic economy to a market oriented economy. Concept of LPG regime signifying licensing raj, prohibitions and government regulations, has given way to ‘LPG’ denoting liberalisation, privatisation and globalisation.
While undertaking any corporate restructuring exercise, it is important to identify synergies, both strategic as well as financial. One of the most important issues in any merger and acquisition scheme, is valuation and to determine exchange ratio for the securities.
There is no mathematically accurate formula of valuation. Apex Court has held that once the exchange ratio of the shares of the transferee company to be allotted to the shareholder of the transferor company, it should be worked out by a recognised firm of chartered accountants. These accountants should be experts in the field of valuation and if no mistake can be pointed out in the said valuation; it is not for the court to substitute its exchange ratio, especially when the same has been accepted without demur by the overwhelming majority of the shareholders of the two companies. However, it does not mean that the court is bound to treat the same as fait accompli-court can view it from the test of fairness. The court on certain occasions does appoint independent valuers, where dissenting shareholders or creditors make a strong case for such an action.
To ensure tax efficiency, one must consider the implications of income tax, stamp duty, sales tax/VAT. Implications under the Foreign Exchange Management Act, SEBI Act, Listing Agreement, and Accounting Standards need due consideration. The integration process should be designed as to not to compromise on the core values of the merging entities.
backdoor listing route instead of the traditional Initial Public Offering (IPO) route. Going public through backdoor listing allows an unlisted company to become listed at a lesser cost. While the process of going public and raising capital is combined in an IPO, in backdoor listing, these two functions are separate. A company can go public without raising additional capital that simplifies the process”.
The concept of backdoor listing has emerged from Clause 8.3.5 of the SEBI (Disclosure & Investor Protection) Guidelines, 2000, which provides for seeking an exemption to any unlisted company from the applicability of Rule 19(2)(b) of the Securities Contracts (Regulation) Rules, 1957 (which provides atleast 10% or 25%, as the case may be, of each class or kind of securities issued by the unlisted company are offered to the public for subscription before the securities are listed, subject to the conditions as laid down in the said clause).
Therefore by complying with the conditions laid in Clause 8.3.5 of the SEBI (Disclosure & Investor Protection) Guidelines, 2000, the unlisted company being a ‘Transferee Company’ in the ‘Scheme’ can get its shares listed on the stock exchange without offering the minimum number of shares to the public, as required under Rule 19(2) (b) of the Securities Contracts (Regulation) Rules, 1957.
The benefits of merger weigh far more than the effort, time and money put in for carrying out the same. The term, compromise or arrangement, used in Section 391 of the Act; is wide enough to include every possible form of restructuring, be it with a company’s members or creditors or other stakeholders. Mantra behind getting a ‘Scheme’ approved from the concerned authorities is that it should not prejudicially affect the interest of shareholders, creditors or public at large.
“There are many reasons for companies to take recourse to the backdoor listing route instead of the traditional Initial Public Offering (IPO) route. Going public through backdoor listing allows an unlisted company to become listed at a lesser cost. While the process of going public and raising capital is combined in an IPO, in backdoor listing, these two functions are separate. A company can go public without raising additional capital that simplifies the process”.
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