Internal Re organizations Through Mergers / Demergers
Maximize shareholder s Value Why Internal Re organization? Companies in the red Privately held set ups Restructuring Avoid sickness norms; Rehabilitation Package for sick Companies Family Arrangement / Succession Plans; Corporatization Optimize capital structure to attract funding & acquisitions; Control issues Prepare for Outside Investments; Prepare for IPO; Build dividend Overseas Listing; Maintain EPS / DPS JV sensitivities payment capacity; Enable Inorganic growth Its an Inorganic way to Grow/ Optimize Valuation
Modes of Internal Re - Organization Modes Split Vertical, horizontal and hybrid split suitable - - Diversified Business and the Co. trading at huge Discount [eg. Bajaj]; - Value unlocking at the Stock Market [eg. Zee Network]; - Facilitating Investors, when funds are required in specified business; - Real Estate in the Co. not getting optimum Valuation; [Eg. Morarji Spinning & Weaving Mills] - Unrelated businesses, capability to run parallel [Eg. Wipro Group]; - Succession Planning [Eg. Reliance Group]; Consolidation Consolidation Consolidation of similar business via merger, demerger and slump sale suitable for - Value Enhancement by consolidating Co.s in similar business [Eg. Dalmia Cements]; - Backward and Forward Integration; - Faster and easier way to wind up paper companies;
Strategies (Inorganic Growth): Through Internal Re - Organization PARTICULARS EFFECT ON MCAP STRATEGIES FOR VALUE Surplus Assets [including Cash] [Eg., Apple] Excess Debt in Capital Structure Excess Trading Business in Manufacturing Co. Diversified Business Model [Eg. Bajaj] Excess Business in Subsidiary Company [Holding Co. Discount] Unlocking the Valuation of Land held in Unlisted Co. in a Tax efficient manner CREATION Use of Surplus Cash for Investment/ Acquisition Sell off of Non Core Unit and Repayment of Debt Demerger of Trading Business and separate listing at the Stock Exchange Demerger of Unrelated Co.s in a separate Co., which shall be listed at the Stock Ex. Merger of a Holding Co. with its Subsidiary and the Shares issued to Promoters Merger of Unlisted Co. with the Listed Co. to increase in Net Worth and thus Mcap.
Strategies (Organic Growth): Through Internal Re - Organization Particulars Effect Market Cap Company Performance [Operating Profits; Net Profits; New Products; Capacity Expansion] Increasing Cash Flows of Business Better Corporate Governance Better Disclosures [Investor, Analysts & Stakeholders Communication] Regular Dividends / Bonus / Buyback The said strategies creates positive environment in the Market and enhances Confidence of Investors/ Shareholders in the Company thereby optimizing the Valuation of the Co.
Points to Consider for Internal Re - organization Commercial considerations Extent of Value Unlocking and Increase of Promoters Control Tax Efficiency Stamp Duty/ Transfer Charges Stakeholders Benefit vis a vis Cost Analysis Regulators recent views and ease of approval
Legal Aspects For Internal Re - organization
Points to Consider for Internal Re - organization - Approval of High Court; Regional Director Registrar of Companies Official Liquidator High Court / RD/ RoC / OL Income Tax - Tax Neutrality; - C/f of Losses & setoff; - Consent of AO; SEBI / Listing Agreement - SEBI / Stock Ex approval; - Compliance of Listing Agreement; - Fairness Opinion; - Approval only in case where there is threat to the Competition Competition Commission of India Companies Act, 1956 and Companies Act, 2013 Valuation - Independent Valuation; - Determine Share Swap Ratio; - Direct V/s Indirect Acquisition; - Intimation / Reporting to Stock Exchange / SEBI; Takeover Code FEMA / NBFC Regulations - Applicable only on Inbound / Outbound Transaction; - RBI approval, if registered as NBFC
Major Challenges & Strategies to Overcome
An Overview of Major Challenges Income Tax & Other Indirect Taxation (Transaction to be in Financial compliance of provisions of Income Tax); Stamp Duty; Transfer Charges [On Mutation of Land]; Challenges Regulator SEBI / Stock Exchanges; Regional Director & RoC, MCA; Reserve Bank of India (In case of NBFC); Income Tax Specific Industry Regulator (Eg. TRAI, IRDA) MCA vide Circular dated 15 th January, 2014 mandated approval of Income Tax and Industry Specific Regulators RBI vide Notification dated 26 th May, 2014 mandated the requirement for obtaining prior approval of RBI in cases of acquisition/ transfer of control of NBFCs Consolidation Others HR & Cultural Issues;
Major Challenges (Stamp Duty Aspects) - Stamp Duty is a State Matter; - Certain states has specifically amended its Stamp Act to include the specific entry pertaining to leviability of Stamp Duty on Scheme of Arrangement; - Whereas, in two of the States, the High Court has decided that the, High Court order approving the Scheme of Arrangement, is exigible to stamp duty: Specific Entry in Stamp Act High Court Order Maharashtra Gujarat Karnatka West Bengal (Most Recent) Andhra Pradesh Rajasthan Tamil Nadu Madhya Pradesh Uttar Pradesh* Uttar Pradesh [In Re. Hero Motor Corp] Delhi [In Re. Delhi Towers Limited] *The Modified Act, yet not enacted
Major Challenges (Stamp Duty Aspects) Location of Property v/s Location of Co. Stamp Duty on the Scheme of Amalgamation depends upon Registered office of the Transferee Co.; and Location of the immovable property of the Transferor Co. For Eg. In UP Owns Immovable Property A Limited B Limited Reg. Office In Delhi Facts: A Limited (Transferor Co.) and B Limited (Transferor Co.) have their registered office situated in Delhi; A Limited, owns an immovable Property in Uttar4 Pradesh; Stamp Duty Implications: In Delhi on the consideration paid under Scheme; In UP, on the Circle Rate of the Immovable Property transferred under Scheme; Strategy to Save Stamp Duty: Make A Limited WOS of B Limited Review Tax on Transfer of Shares; Eligible for Set off on account of double duty on same instrument as per Section 19 of Stamp Act IMPACT OF STRATEGY NO STAMP DUTY IN DELHI [As no Consideration Paid] NO STAMP IN UP UP [1941 Notification]
*Tax on Transfer of Shares needs to be reviewed Strategies to Overcome Stamp Duty Aspects Change of Registered Office to a State where there is no Specific Entry / Case Law [Eg. Haryana] *Holding WOS Merger [Since no issue of Shares, hence no Stamp Duty on Consideration] (applicable only in case the Transferor Co. is not owning property) Strategy to consider the Co. having Immovable Property as Transferee Co. Holding 90% Subsidiary Merger in Uttar Pradesh [Exemption of Stamp Duty available based on Notification of 1942]
Major Challenges (SEBI / Stock Exchange Aspect) Role of SEBI in M &A
Major Challenges (SEBI / Stock Exchange Aspect) - SEBI vide Circular dated 4 th February, 2013 and 21 st May, 2013, amended the requirements of Clause 24 (h) of the Listing Agreement; - The amendment provided for approval of SEBI to each Scheme of Arrangement, wherein Listed Co. is involved; Approval of Shareholders through Postal Ballot and e - Voting; Submission of Complaint Reports; Display of documents (relating to M & A) on the Website of Co. and Stock Exchange Other Key Features of the Circular Recommendation of Audit Committee on the Valuation / Scheme;
Major Challenges (SEBI / Stock Exchange Aspect) SEBI (SAST) Provisions Regulation 10 (1) (d) (ii) of SEBI (Substantial Acquisition of Shares and Takeovers) Regulation 2011 provides - Regulation 10 (1) The following acquisitions shall be exempt from the obligation to make an open offer under regulation 3 and regulation 4 subject to fulfillment of the conditions stipulated therefor, Clause (d) (ii) of arrangement involving the target company as a transferor company or as a transferee company, or reconstruction of the target company, including amalgamation, merger or demerger, pursuant to an order of a court or a competent authority under any law or regulation, Indian or foreign; or
Major Challenges (SEBI / Stock Exchange Aspect) MAJOR ROADBLOCKS Substantial Dilution in Public Shareholding Acquisition of Shareholding in Target Co. by More than 5% Without triggering Open Offer Merger of Financially Healthy Unlisted Co. into Shell Listed Co. [An action to circumvent IPO] Acquiring Control / Change in Promoters under Scheme, avoiding the Takeover Offer Swap Ratio skewed in favor of Unlisted Co. FEW CASES WHEREIN SEBI GAVE NEGATIVE OBSERVATION - JDS Finance Company Limited Sri Balaganapathy Mills Ltd. Ganon Trading and Finance Company Limited Chitradurga Spintex Limited Trio Mercantile & Trading Limited SEBI has rejected appx. 50 applications stating the above grounds, out of 213 applications filed with Bombay Stock Exchange.
Strategy to Overcome SEBI / Stock Exchange Aspects Listed FACTS: X Limited is a Listed Co., having its shares listed at BSE Limited; X Limited is not engaged in any business and does not have any substantial assets/ liabilities; Mr. X is the promoter of X Limited X Limited Listed Y Limited Y Limited is a closely held Co., having huge business potential; Mr. Y is the promoter of Y Limited; Y Limited is Cash rich Co., does not require any fund from Market; Mr. Y propose to list its share at the Stock Ex Unlisted Y Limited BENEFITS OF THIS SCHEME: Y Limited gets Listed at Stock Exchange; Shareholder of X Limited (Shell Co.), gets fresh business; Value enhancement of almost dead stock STRATEGY Acquisition of the Listed Co. through an open offer under Takeover Regulations, by the Promoters in their Individual Capacity; Open offer to specify the Promoter intent of Merger of the Unlisted Co. with the Listed Co.; Post acquisition, Merger of the Unlisted Co. with the Listed Co. SEBI shall provide their NoC;
Recent Developments (Cos. Act, 2013)
Recent Developments In Companies Act, 2013 Major Amendments Major Features of Companies Act, 2013 CA, 2013 Cross Border M &A Easier Restructuring Investor Protection Increased reporting Frame Work Consolidation Fast Track M & A
Recent Developments Key Highlights of M &A Provision of CA, 2013 Treasury Stock Prohibited (Sec. 232 (3) (b) of CA, 2013); Exit opportunity to Dissenting Shareholders (Sec. 235 of CA, 2013) Multi Layered Structure prohibited [Maximum 2 layers of investment companies permissible] The Rules specifically define demerger as transfer of an undertaking in a manner provided under section 2(19AA) of the Income-tax Act, 1961; Accounting treatment for demerger also now prescribed; NCLT to assume jurisdiction of the High Court Voting through meeting or Postal Ballot as may be directed Section 230 (6) of CA, 2013 Yearly statement to be submitted for implementation of scheme (Sec. 232 (7) of CA, 2013) Approvals also required from Income Tax Authorities, Specific Industry Regulators, CCI, Stock Exchanges, etc.
M &A Provision of CA, 2013 Small Co. and Holding Co. Merger The New Act, has provided fast track route for merger of small companies / holding or subsidiary companies Merger between small companies; or Merger between holding company and its 100% subsidiary; or Merger between other class or classes of companies as may be prescribed Small Company Section 2(85) Private Company Paid Up Cap < Rs. 50 Lakhs > 50 crore Turnover < Rs. 2 Crores > 20 AND Crores Excludes Holding co Subsidiary Co Not for Profit Co.
Case 1: Merger of Operating Co. with Holding Co. Promoter s Investment of Promoter in operating company through a Holding Company; Need to collapse the Intermediate Co. by merging Holding Company into the Operating company; Hold Co. Co. A Operating Unlisted Co. Co. B The structure enables clean up of Group, effective management and reduction of administrative costs; Key Considerations: o Stamp Duty, business perspective, commercial rationale o Cross Holding Cancellation: On Merger Holding Company investment in Operating Company shall be cancelled o Operating Company to issue shares to shareholders of Holding Company; Capital reduction an integral part of the Scheme
Case 2: Streamline Group Holding Structure Pre Structuring FACTS: XYZ Group, consist of several companies, including Co. X, Co. Y, XYZ Group Co. Z and Co. A; All the Companies are engaged in Multiple Business including Sugar; Power Sugar Power + Sugar + Trading Ethanol + Real Estate Real Estate Ethanol (Sugar By Product); Real Estate; Trading Business Real Estate Power IMPACT: No separate business at one place; No focused management orientation towards business; No Corporate structure; Nil utilization of Tax Losses that may be available with either of the Companies; Funding Difficulties Investor may not infuse in a particular business, due to its structure Not suitable structure for IPO;
Case 2: Streamline Group Holding Structure.. Post Structuring BENEFITS OF STRUCTURING: Promoters Funding: Bringing in PE Investor for specific project; XYZ Group (Hold CO) IPO structuring part/ entire business Clean up of Structure with consolidation of similar business at one place; Sugar Power Ethanol and Sugar By Products Trading Real estate Larger picture of the business concentrated at one place; Addressing bleeding units enhance profitability or utilise tax losses; Business consolidation; Focused Management Orientation; POINTS TO BE TAKEN CARE OF: Mitigating Tax Costs Ensuring availability of tax losses; Ensuring carry forward of incentives, to the extent possible; Stamp duty mitigation; Operation and commercial viability; Tools to be used in Structuring Merger Demerger Slump sale Acquisition
Case 3: Value Creation through delinking of Business Pre Structuring FACTS: Co. X is a listed Co., having its shares listed at BSE Limited; Co. X is engaged in multiple business including Cinema; Jewellery; Foods & Beverages; Promoters / Public Co. X Listed at BSE Through Divisions Jewellery Business is the largest contributor in the Top Line contributing almost 80% of the Revenue Cinema, though is contributing only 15% in the revenue, but has good Profit Margin and contributes little less then Jewellery in Bottom Line financials; Foods & Beverage is the growing business, with good potentials; Cinema Jewellery Foods & Beverage IMPACT OF THIS STRUCTURE Co. X trading at discount at the Stock Exchange on account of Diversified Business; Funding Difficulties Investor may not infuse in a particular business, due to its structure; The valuation of Cinema Division, the business with huge Profit Margin, is not reflected at the Stock Exchange; Foods & Beverage Division potential not reflected;
Case 3: Value Creation through delinking of Business Post Structuring BENEFITS OF STRUCTURING: Funding: Promoters / Public Listed X Limited [Cinema Division] Listed Listed Y Limited [Jewellery Division] Bringing in PE Investor for specific project; Optimized Valuation: Value creation as Separate Divisions will fetch separate set of Valuation, thus no diversified discount Instead of One, Three Listed Companies in the Group; Separate Business in separate Co., capable enough to run parallel; POINTS TO BE TAKEN CARE OF: Y Limited [F & B Division] Mitigating Tax Costs; Ensuring carry forward of incentives, to the extent possible; Stamp duty mitigation; Operation and commercial viability; TOOLS TO BE USED IN STRUCTURING Demerger under Section 391 394 of the Companies Act, 1956
Case 3: Value Creation through delinking of Business Market Capitalization of a Listed Company (All business divisions under one company) Possible Market Capitalization at Industry P/E of the respective business segments Particulars Amount P/E 7.00 PAT 14.00 Market Capitalisation (P/E*PAT) 98.00 Market Capitalisation Particulars PAT Industry P/E* (PAT * Industry P/E) Division 1 5.00 25.25 126.25 Division 2 8.00 5.65 45.20 Division 3 1.00 18.78 18.78 Total 14.00 190.23 Substantial Increase in the market capitalization by converting to Industry Multiples DELINKING OF UNRELATED BUSINESS GENERALLY LEADS TO IMPROVED MARKET CAPITALIZATION AND HIGHER RETURNS
Case 4: Increase in Net Worth through Amalgamation Pre Structuring Merger of Co. X and Co. Y Shareholders X Co X Shareholders X Co Y Shareholders of X and Y Co Y FACTS: CO. X and Co. Y are the two closely held companies in Group with Common Shareholding and the Common Management; Co. X owns an Immovable Property in Gurgaon whose Book Value is Rs. 100 Cr. and the Market Value is Rs. 500 Cr.; Co. Y on the other hand is engaged in its business activities not performing well; Co. Y requires funds, however, its capacity is 100% utilized and all sources of equity channel is dried up; Registered office situated in Gurgaon, Haryana; IMPACT OF THIS STRUCTURE: Co. X remains under valued as the worth of Immovable Property is not reflected in its Balance Sheet; Revaluation of the asset would create Revaluation Reserve, which has limited usage;
Case 4: Increase in Net Worth through Amalgamation Post Structuring BENEFITS OF STRUCTURING: Increase in Net Worth of Consolidated Entity: Bringing the Book Value of Land to its fair value in the balance sheet of the Consolidated Transferee Company; Enhance Net Worth of the Company and prepare the Transferee Company for funding; Business consolidation; POINTS TO BE TAKEN CARE OF : Mitigating Capital Gain Taxation costs; Ensuring availability of Income tax losses, if any; Ensuring carry forward of incentives, to the extent possible; Stamp duty mitigation / transfer Charges; Operation and commercial viability; Whether the same structure is feasible, if the registered office of the Co. X is situated in Delhi? No [Stamp Duty on Consideration @3%] Whether the same structure is feasible if the Co. Y is listed at the Stock Exchange? - No [SEBI May object to same as the Promoters Shareholding would increase substantially]
Case 4: Increase in Net Worth through Amalgamation Company X (Net Worth) Assets Amt. In Rs. Land 100.00 Investments (Unquoted Shares) 10.00 Cash (In Hand and Bank) 5.00 FD 18.00 Debtors 0.50 Total Assets 133.00 Liabilities Creditors 0.20 Loan 50.00 Total Liabilities 50.20 Net Worth 82.80 Assets PRE RESTRUCTURING FINANCIALS Company Y (Net Worth) Assets Amt. In Rs. Land 30.00 Investments (Unquoted Shares) 5.00 Cash (In Hand and Bank) 12.00 Debtors 20.00 Total Assets 67.00 Liabilities Creditors 13.00 Loan 20.00 Total Liabilities 33.00 Net Worth 34.00 POST RESTRUCTURING FINANCIALS Amt. In Rs. Land 530.00 Investments (Unquoted Shares) 15.00 Cash (In Hand and Bank) 17.00 FD 18.00 Debtors 20.50 Total Assets 600.50 Liabilities Creditors 13.00 Loan 20.00 Total Liabilities 33.00 Net Worth 567.50 All Amt. in Rs. Cr. The Value of Land is unlocked from Rs. 100 Cr. To Rs. 500 Cr. In the post Merged Financials; The effect of Value unlocking of Land is clearly on the Net Worth of the Co.; No Capital Gain Taxation Exempt u/s 47 of the Income Tax Act, 1961; Stamp Duty? Needs to be reviewed depending upon location;
Case 5: Debt Restructuring Pre Structuring Facts: Co. X is a Listed Co., having its shares listed at BSE Limited; Mr. X is the Promoter of the Company The Co. is engaged in the business of Steel and Power, having its plant situated in UP; The Co. has Paid up Capital of Rs. 100 Cr. and Net Worth of Rs. 500 Cr.; Because of the project size, the Co. is exposed towards loan of Rs. 2000; Cr.; The shortage of Raw Material for both the business is leading to huge loss to the Co. in the last few years and the Co. has accumulated Book Loss of Rs. 1600 Cr. and Tax Loss of Rs. 1350 Cr.; Looking at the future scenario, Promoter proposes to take exit from the business; Promoters / Public X Limited [Steel & Power Business] Listed Running into Losses Exposed to Huge Debts IMPACT OF THIS STRUCTURE Due to high Interest burden, Co. is facing problem to meet its daily cash flows; Unable to pay its installments on time thus being NPA; No focus on Business
Case 5: Debt Restructuring Post Structuring Strategy to Restructure the Debt: An acquirer (Mr. A) to acquire the Loans from Banks at a Discounted rate, lets say Rs. 500 Cr. Acquirer to infuse itself in the Management of the Co. through an agreement and Conversion of the entire loan of Rs. 2000 Cr. Into Equity Shares Open offer for Change in Control and Management and Increase in shareholding beyond limits; Writing off of Book Losses of Rs. 1600 Cr. against the Share Capital of the Company. Thus cleaning up of Balance Sheet with No Losses and No Loans; Availability of Tax Losses of Rs. 1350 Cr., thus benefiting the acquirer by Rs. 405 Cr. (30% of Rs. 1350 Cr.) ADVANTAGES OF THIS STRUCTURE Clean Balance Sheet with No Losses and No Loans; Availability of Tax Losses focus on Business Promoters / Public X Limited [Steel & Power Business] Listed Clean Balance Sheet with No Losses and No Loans; Tax Benefits
Real Examples of Internal Re - organization Succession Planning Delinking of Business enabling Value Creation Consolidation of Similar Business at One Place
Pavan Kumar Vijay Corporate Professionals Capital Private Limited D-28, South Extension I, New Delhi-110 049 Ph: +91.11.40622200; Fax: +91.11.40622201; E: pkvijay@indiacp.com