Introduction Mergers and Demergers
The term ‘Amalgamation’ or ‘Merger’ or ‘De-merger’ is not defined in the Companies Act, 1956. In simple terms, a Merger or Amalgamation is an arrangement whereby the assets of two or more companies become vested in one company (which may or may not be one of the original two companies). It is a legal process by which two or more companies are joined together to form a new entity or one or more companies are absorbed by another company and as a consequence the amalgamating company loses its existence and its shareholders become the shareholders of the new or amalgamated company.
De-merger is an arrangement whereby some part /undertaking of one company is transferred to another company which operates completely separate from the original company. Shareholders of the original company are usually given an equivalent stake of ownership in the new company. De-merger is undertaken basically for two reasons. The first as an exercise in corporate restructuring and the second is to give effect to kind of family partitions in case of family owned enterprises. A de-merger is also done to help each of the segments operate more smoothly, as they can now focus on a more specific task.
Checklist for Mergers and Demergers
Factors to be considered
Business restructuring may be achieved by a variety of methods, such as, Merger, Demerger / Spin Off, Slump Sale, Acquisition of Shares, etc. Each method has its own pros and cons and must be selected keeping in mind the objectives to be achieved. While adopting a particular method, the following legal factors, wherever applicable, need to be considered, in addition to the commercial and financial justification:
- Income-tax impact on the Companies and their share holders, e.g., capital gains on the transfer, set-off of losses and depreciation, transfer of deduction, cost of assets to the Transferee, etc.
- Stamp duty
- Companies Act provisions
- Competition Law provisions
- SEBI’s prior permission
- SEBI Takeover Regulations and SEBI DIP Guidelines
- Listing Agreement provisions and procedural requirements
- FEMA and FIPB Policies
- VAT – transfer of Exemption Schemes and tax on the transfer of business
- Transfer of CENVAT Credit and Excise Registration
- Transfer of Licenses under EPCG (Export Promotion Council Guarantee) Scheme, Project Import Regulations, etc.
- Transfer of tenancies under Rent Control Laws
- Labour law implications, e.g., Govt. permission for closure of a unit with more than 100 workers
- Permissions required under contractual agreements, e.g., lenders, Govt. Ministries in case of infrastructure / telecom projects, etc.
- Transfer of environmental licenses
- Accounting implications of a particular method
The Merger Scheme / Scheme of Amalgamation must cover the following:
- Definitions of important terms such as Appointed Date, Effective Date, Record Date for issue of shares, etc.
- Background, capital, history, etc. of the Transferor and Transferee Company
- Rationale of the Scheme
- Amalgamation of Transferor with Transferee Company and vesting of its undertaking, assets and liabilities in the Transferee Company. Reduction of capital, if any, of the Transferee
- Issue of securities, etc. by Transferee to share holders of Transferor, Share Exchange Ratio, Valuation Report, etc.
- Increase in Authorised Capital of Transferee, if required
- The Date from when the Scheme comes into operation
- Accounting Treatment of the amalgamation by the Transferee
- All contracts, deeds, bonds, instruments, executed by the Transferor to be binding on and enforceable against the Transferee
- All legal proceedings, by or against the Transferor to be binding on and enforceable against the Transferee
- Transferee to carry on Transferor’ business until the Effective Date
- Applications to relevant High Courts for their approval
- All employees of Transferor to become the employees of Transferee
- No dividends, bonus, rights, further shares to be issued by either company without prior approval of the other company
- The approvals / sanctions upon which the Scheme is conditional and effect of non-receipt of such approvals
- Sharing of merger costs and expenses
- Change of Board of Directors of Transferee, if any
- Dissolution without Winding-Up of Transferor
- Change of name and registered office of the Transferee, if applicable
Additional Checklist for Demergers
- Ensure that what is being Demerged is an Undertaking as per the Income-tax Act or else the tax benefits may be jeopardized
- Decide whether the Resulting Company would be a New Company or an Existing Company
- Reduction in capital of the Demerged Company
- Accounting Adjustments, if any
- Resulting Company to take over the assets and liabilities of the Demerged Company
- Allot the securities to the share holders of the Transferor Company
- Checklist for Slump Sale
- Ensure that what is being sold satisfies the conditions of an ‘undertaking’ under the Income-tax Act
- Ensure that the Main Objects in Memorandum of Association of Transferor contain the power to sell a business undertaking and in case of Transferee contain object(s) for carrying on such business
- Audited Balance Sheets of the undertaking / business to be sold
- Decide upon the lump sum consideration and its mode of payment
- Compute the tax impact u/s. 50B of the Income-tax Act
- Ascertain the stamp duty and VAT impact, if any, on the sale
- Draft the Slump Sale Agreement
- Draft the Postal Ballot Notice + Draft Resolution + Explanatory Statement to be sent to the Members.
- File special resolution with ROC.
- Execute the Slump Sale Agreement
- Give possession of the undertaking / business to the Transferee
- Prepare a letter of possession
- Board Resolution for giving and receiving the possession of the business
- Pass Accounting entries for sale of business undertaking in the books
- Take steps for transfer of CENVAT Credit
With the FDI policies becoming more liberalized, Mergers, Acquisitions and alliance talks are heating up in India and are growing with an ever increasing cadence. They are no more limited to one particular type of business. The list of past and anticipated mergers covers every size and variety of business — mergers are on the increase over the whole marketplace, providing platforms for the small companies being acquired by bigger ones. The basic reason behind mergers and acquisitions is that organizations merge and form a single entity to achieve economies of scale, widen their reach, acquire strategic skills, and gain competitive advantage. In simple terminology, mergers are considered as an important tool by companies for purpose of expanding their operation and increasing their profits, which in façade depends on the kind of companies being merged. Indian markets have witnessed burgeoning trend in mergers which may be due to business consolidation by large industrial houses, consolidation of business by multinationals operating in India, increasing competition against imports and acquisition activities. Therefore, it is ripe time for business houses and corporates to watch the Indian market, and grab the opportunity.