Introduction
India Inc’s long wait
for a new company law seems to be finally getting over. The Companies Bill,
2012 (“the Bill”) has been passed by the Rajya Sabha on August 8, 2013. It now
needs presidential assent and notification in the Official Gazette to replace
the existing Companies Act, 1956 (“the Act”).
It is pertinent to
note that most of the provisions of the Bill are subject to rules, which are yet
to be formalized – going by the current press release, it appears that MCA
expects all rules regarding the Bill to be in place by March 31, 2014, after
taking into account the suggestions from stakeholders.
The Bill contains some
far-reaching changes which will impact the management and administration of
companies, shareholder’s rights, director’s responsibilities, maintenance of
accounts and audit of companies and other provisions relating to mergers,
acquisitions, winding up of companies.
In this edition of BMR
Edge on the Bill (our second such alert), we
have focused on the key aspects that impact the M&A landscape. Please ‘click
here’ for our earlier editions of BMR Edge, covering the overall
impact of the Bill vis a vis the
Act.
A.
Migrating to the
Bill
•
On
enactment and notification of the Bill, the Act (except for certain specified
provisions) shall stand repealed.
• Any action
(including issuance of any rule, notification, order, notice, resolutions
passed, instruments executed, etc) under the Act including those taken by any
authority will continue to be valid and in force so long as the same is not
inconsistent with the provisions of the Bill.
•
Any
principle or rule of law, form or course of pleading, practice or procedure etc
shall not be affected.
Key
takeaways:
•
Steps
and procedures undertaken for ongoing transactions appears to be grandfathered;
however, depending on the approval stage of the transaction when the Bill is
legally enacted, issues could arise which, while permissible under the Act, are
inconsistent with the provisions of the Bill.
•
For
example, consider a clause in an ongoing scheme of merger which envisages
creation of treasury stock – would this need to be deleted and the swap ratio to
be reworked, if the Bill becomes effective prior to the final sanction of the
scheme by the court? If yes, would it also require a duplication of corporate
approvals for the revised scheme?
Another example
is the circulation of a postal ballot notice for an ordinary
resolution in the event of a proposed sale of an undertaking by a company in
accordance with the Act. If the Bill becomes effective prior to the completion
of the postal ballot process, would the company be required to obtain a special
resolution as envisaged by the Bill by repeating the postal ballot
process?
•
Re-enactment of any
law normally gives rise to transitioning and grand fathering issues. Similarly,
repealing of the Act on the date the Bill becomes effective would give rise to
the above and various other issues, which will need to be clarified/ resolved.
One option is to specify a transition date (say, April 1 2014) on which all
existing or ongoing procedures will remain valid and be executed under the Act;
further, any transaction that is commenced after such date will be required to
follow the provisions of the Bill. If such a date is notified well in advance,
it will enable corporates and regulators to plan their activities and hopefully
avoid controversies and wasteful litigation.
B.
Transition of
powers
The Bill envisages
that all powers and functions of the Company Law Board, Company Court and those
of BIFR under the Sick Industrial Companies Act would henceforth be exercised by
the National Company Law Tribunal (‘the Tribunal’). Such a provision is
contained in the Act too, though the Government did not setup the Tribunals as
required owing to litigation and other factors.
The Bill therefore
provides that until the Government notifies a date for transfer of all matters,
proceedings or cases to the Tribunal, the provisions of Act in regard to the
jurisdiction, powers, authority and function of the current Company Law Board
and the Company Court shall continue to apply.
Key
takeaways:
•
The
creation of a single forum which is dedicated to corporate matters is a welcome
move, and removes the problem of multiple regulators. However, given that its an
unprecedented exercise, careful planning and clear rules will be required to
ensure that transition to a new regulator will happen without trouble. In
particular, migration of existing proceedings (at various fora) needs to be
managed carefully. Given that execution of schemes of restructuring under the
Act is a time consuming exercise, it remains to be seen whether the new Tribunal
will help accelerate matters.
C.
Amendments impacting
mergers/ demergers and other arrangements
1.
Enhanced scrutiny and
procedural requirements
With a view to
enabling greater scrutiny of the schemes by the concerned regulators and
protecting shareholder rights, the Bill provides for the following:
•
Notice of
meeting for the scheme should be sent to the Central Government (i.e the
Regional Director, Department of Company Affairs (‘DCA’), Registrar of Companies
(‘ROC’) Official Liquidator (‘OL’), Income-tax authorities, RBI, SEBI,
Competition Commission of India (‘CCI’) and other sectoral regulators for their
comments/ suggestions/ objections within 30 days – in case no representation is
made within 30 days, it will be presumed that they have approved the
scheme.
•
The swap
ratio for scheme will be undertaken by a registered valuer and a copy of the
valuation report should be provided to all the shareholders and
creditors.
•
The
meeting of creditors can be dispensed with if creditors holding 90% or more
value of total debt of the company approve the scheme by way of an
affidavit.
•
Shareholders would
have the option to vote for the scheme through postal ballot, in addition to
voting physically at a meeting.
•
Companies
will have to obtain statutory auditor’s certificate to the effect that the
accounting treatment in the scheme is compliant with Accounting Standards
(listed companies are in any case required to provide this certificate under the
Listing Agreement).
•
Objection
to the scheme can be raised by shareholders holding at least 10% stake or
creditors holding at least 5% of total outstanding debt as per the latest
audited financial statements.
•
In the
course of any arrangement, transferee companies are prohibited from holding any
shares in its own name or in the name of any trust whether on its own behalf or
on behalf of its subsidiary/ associate companies.
Key
takeaways:
•
The
above provisions should result in greater transparency and reduce the scope for
unconventional/ ambiguous practices, particularly where valuation and accounting
considerations are involved.
• Under the
Act, notices of the scheme are required to be sent to the DCA, RoC and the OL.
Imposition of the time limit of 30 days may actually help to improve their
response rate, although the possibility of these authorities approaching the
Tribunal for additional time cannot be ruled out. In case of listed companies,
notices of the schemes are required to be sent to SEBI prior to the schemes
being filed with the Tribunal. Similarly, notices are also required to be sent
to CCI in case the merger/ demerger transaction meets the specified thresholds.
However, the impact of notifying other regulators (RBI, Income-tax authorities)
both on timelines as well as execution needs to be
seen.
• Minimum
thresholds of 10%/ 5% for shareholders and creditors intending to object to
schemes appears high. Particularly in case of listed companies, minority needs
to commit substantial efforts in pooling stake if they have to raise valid
objections, unless a large institutional shareholder takes up the cause. Of
course, the flip side is that this will eliminate frivolous objections by
shareholders with negligible stake (which happens in many schemes) thereby
avoiding unnecessary delays.
•
Prohibition on
companies holding shares in their own names or in the name of any trust is
intended to stop companies from creating treasury stock in the guise of a merger
or demerger. Historically, such blocks of shareholding have been used as an
avenue to control voting rights or in other cases, to manage profitability and
cash flows. This change is also in line with the Act which prohibits a company
from owning its own shares. It is interesting to see whether the Bill will
permit creation of treasury stock held by trusts on behalf of shareholders (and
not on behalf of the company or its subsidiary/ associate). A related concern is
how treasury stock holdings already created under the Act will be treated in
future ie whether they can continue as such or do they need to be
unwound.
2.
Relaxation for small
companies
The Bill provides that
the following transactions may be undertaken without the approval of
Tribunal:
•
Merger
between small companies (based on prescribed capital/ turnover); or
•
Merger
between holding company and its 100% subsidiary; or
•
Merger
between other class or classes of companies as may be
prescribed.
Approval
process: As a process, the
scheme approved by the Board of Directors of the companies is to be sent to the
RoC and the OL inviting their suggestions/ objections within 30 days. The
scheme is then considered in the meeting of shareholders and creditors along
with suggestions/ objections – the scheme should be approved by the shareholders
(holding 90% of total number of shares) and creditors (majority in number
representing 9/10th in value). Once the scheme is approved by the
shareholders and creditors, the same is filed with the OL, RoC and the Central
Government (ie the DCA) – if the OL or the RoC have no further objections, the
scheme is registered by the DCA.
Such scheme may be
referred to Tribunal in case the RoC or the OL or the DCA have any objection to
the scheme – in such a case, the Tribunal can either direct the scheme to be
considered under the normal merger route or it may confirm the scheme by passing
an order.
Key takeaways:
•
A
welcome step that would result in reduction in administrative burden, timelines
and costs for smaller companies that fall within the threshold
limits.
•
Merger
of a listed company and its 100% subsidiary would still require approval of SEBI
and the stock exchanges under the Listing Agreement.
3.
Merger of Indian
company into foreign company
Presently, while
foreign companies are allowed to merge into Indian companies, the reverse is not
possible. The Bill now provides for the merger of an Indian company into a
foreign company located in certain jurisdictions (to be notified). The
consideration for merger, which would also be subject to approval of RBI, can
either be in cash or Depository Receipts (“DR”) or partly in cash and partly in
DR.
Key
takeaways:
•
A far
reaching change that would facilitate cross border transactions with greater
flexibility. For example, dual listing could be made possible. Readers may
recall that one of the concerns in the Airtel/ MTN deal was the absence of a
provision in the Act which would have enabled cross border merger followed by
dual listing (this would require a change in securities laws) in both
countries.
•
Indian
companies could also utilize this route to restructure their shareholding,
whereby they migrate ownership to an international holding structure which
increases access to foreign markets (and possible exit to financial investors).
However, the extent to which this provision would actually play out would depend
on which jurisdictions are actually permitted for such cross border
mergers.
•
Tax
laws will need to be amended to make such transactions tax-protected in the same
way as domestic mergers. Similarly, foreign exchange laws need to be amended to
facilitate such mergers and one has to see what the RBI approval process
practically entails.
4.
Exit to
shareholders
On merger of a listed
company into an unlisted company, the unlisted company can remain unlisted
provided shareholders of the merging listed company are given an exit
opportunity. Technically, such a transaction is possible even under the Act
(recent precedents include Wipro Ltd. and Sundaram Clayton
Ltd).
Key
takeaways:
•
A
specific provision in the Bill would encourage companies to explore this
option as an alternative or in addition to the Delisting Guidelines. It
will be interesting to see what stand SEBI and stock exchanges take when schemes
are presented to them for their approval.
•
Since
the exit to shareholders will happen by way of cash, there would be income tax
implications for the shareholders since transactions involving cash
consideration do not enjoy tax neutrality.
5.
Minority buy
out
The Bill provides that
where a person or group of persons become shareholders with 90% or more stake in
a target company (listed or unlisted), then such person/ group shall
compulsorily notify the target company of their intention to acquire the balance
stake held by the minority shareholders. The price mechanism for such deal is
yet to be formalized; however the same needs to be carried out by a registered
valuer.
Key
takeaways:
•
Exit
opportunity for the minority shareholders at a fairly determined
price.
•
Again,
a provision which would enable promoters or other acquirers to delist the
company in the event the target is a listed company. In unlisted companies too,
the provision would allow consolidation of shareholding without any significant
or long drawn litigation.
D.
Other M&A related
provisions
1.
Sale of an
‘Undertaking’
•
Transaction will be
subject to special resolution (as opposed to an ordinary resolution under
the Act) and applicable to both private and public
companies.
•
‘Undertaking’ defined
as one:
-
in which
investment of the company is >20% of its net worth as per the audited balance
sheet of the preceding financial year; or
-
which
generates 20% of the total income of the company during the previous financial
year.
•
‘Substantially the
whole of the undertaking’ is defined as 20% or more of the value of the
Undertaking as per the audited balance sheet of the preceding financial
year.
Key
takeaways:
•
Process to sell an
Undertaking is made more stringent - provision to apply to both private and public companies and it now requires
¾ majority of shareholders.
2.
Buy
back
•
Bill
specifically provides for a minimum gap of one year between two
buybacks.
•
Buyback
is not possible in case of following defaults, unless the defaults have been
remedied and three years have passed:
-
Repayment
of deposit/ interest payable;
-
Redemption of
debentures or preference shares;
-
Payment
of dividend; or
-
Repayment
of any term loan or interest.
Key
takeaways:
•
Provision is
beneficial for the investor community since a company which has defaulted on
repayment of public deposits is restricted from distributing dividends or
undertaking buybacks, thereby ensuring that shareholders cannot extract cash
while public investors suffer.
•
On the
flip side, this provision is retrograde in its thinking because it restricts the
ability of companies to distribute surplus cash to its shareholders
frequently.
3.
Capital
reduction
•
Capital
reduction is not permitted if company has not repaid deposits or interest
payable.
•
Notice of
proposed capital reduction to be sent to DCA, RoC, SEBI and creditors;
representations, if any, to be made within 3 months.
•
Statutory
auditor’s certificate required for confirming accounting treatment is in
accordance with Indian GAAP.
Key
takeaways:
•
Overall timelines will
increase due to notice required to be sent to DCA and other authorities
(presently not required) and the 3 months notice period.
•
There
have been instances where even profitable companies have utilized share premium
account to write off capital expenditure and assets which have lost value and
thereby protected their revenue reserves. Needs to be seen how auditors will
grant certificates in such cases, though Indian GAAP is silent on ability to
make such set offs.
•
Creates additional
pressure on public companies to settle any outstanding public
deposits.
4.
Provision for sick
companies
•
Any
company can be declared as a sick company (need not be an 'industrial
undertaking’ as is presently the case under the Act).
•
Criterion
of erosion of 50% net worth for declaring a company sick is dispensed with – the
revised criterion is ‘inability to pay 50% the outstanding secured debt’ within
30 days of service of notice by the secured lenders.
•
The
scheme of revival and rehabilitation should be approved by both secured
creditors (holding 75% value) and unsecured creditors (holding 25% value) – if
not approved, Tribunal can order winding up of the
company.
Key
takeaways:
•
A
rational move to correlate ‘sickness’ with a company’s inability to pay its
debts rather than with erosion of net worth which is more governed by accounting
considerations.
•
Many
large companies in the services sector such as hospitality, ITES etc have
negative net worth and/ or are unable to pay their debts. However, these
companies are not covered within the ambit of provisions governing sick
companies, by virtue of an anomaly in the Act, which is now
removed.
•
An
area of concern could be the exclusion of unsecured creditors from the
definition of ‘inability to pay’.
5.
Miscellaneous
•
In
addition to the right to appoint majority directors, paid-up capital (ie equity
capital + preference capital) is to be considered for determining the
holding-subsidiary relationship. This stand is in conflict with the
consolidation principles under the Accounting Standards, which are based on
voting power or composition of Board of Directors.
•
The Bill
prohibits multi-layered investment structure wherein investment is not permitted
through more than 2 layers of investment companies. However, overseas
multi-layered structure is permitted. The provision has been introduced to
bring transparency in the transactions. However, it would be interesting to see
the impact on the existing multi-layered structures and in case of merger of a
company having an existing multi-layered structure into another
company.
•
The Bill
provides that Articles of a company may contain entrenchment provisions, whereby
the specified provisions of the Articles can be altered if more restrictive
conditions as compared to those applicable in case of special resolution have
been met - This would provide an additional layer of protection for
investors with respect to voting and other commercial terms
agreed.
•
Any
contract or arrangement between two or more persons in respect of transfer of
securities of a public company shall be enforceable - Important amendment to
bring some clarity to the entire debate on transfer restrictions in public
companies. This was becoming a concern area, with various judicial precedents
upholding different principles.
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