Bill may open new avenues for cross-border mergers

In this era of economic recovery, an effective legislative framework is needed to facilitate and regulate corporate transactions, including cross-border mergers. Cross-border mergers can be challenging yet exciting, given the regulatory, corporate, competition, accounting, taxation and operational issues they may pose.

Present position

The Companies Act, 1956, permits a merger of an Indian company and a foreign body corporate so long as the surviving company is an Indian company. This is because Section 394(4)(b) of the act defines a “transferee company” to exclude an entity that is not a “company” under the act. However, a “transferor company” has been defined to include a body corporate incorporated outside India. Accordingly, there have been several instances of bodies corporate incorporated outside India merging into Indian companies. A majority of these instances involved overseas affiliates or subsidiaries of the Indian companies and seem to be consolidations for regulatory and taxation purposes.

Proposed framework

In a significant departure from the existing regime, the Companies Bill, 2012, as passed by the Lok Sabha (the lower house of the Indian parliament), permits mergers of Indian companies, being transferor companies, with foreign companies or bodies corporate incorporated outside India, regardless of whether they have a place of business in India.

Section 234 of the bill enables such a merger of an Indian company with a foreign body corporate incorporated in specified countries as notified by the central government from time to time. Such a merger will require prior approval of the Reserve Bank of India (RBI).

The terms and conditions of the merger scheme may provide for payments to shareholders of the merging company in cash, in Indian depository receipts (IDRs), or partly in cash and partly in IDRs. It is stipulated in the bill that the central government may make rules in this regard in consultation with the RBI.

The proposal to allow the merger of Indian companies into bodies corporate incorporated outside India is undoubtedly laudable and has the potential to provide new ways of structuring transactions involving Indian companies. In addition to the usual benefits which a merger brings, a merger with a foreign company may also provide better technical expertise and global best practices to the erstwhile Indian company and may even lead to securing overseas listing through a reverse merger. However, such listings have increasingly become difficult, in view of the stringent norms introduced by regulators such as the US Securities and Exchange Commission, to curb a spate of reverse mergers by Chinese companies which merged with shell US listed companies to secure immediate access to the US public markets.

Challenges and unknowns

In India, the success of this novel structuring option would depend on how the legislative framework is modified to adapt to the needs of this proposal, and the scope and mandate of the rules that may be framed by the government in consultation with the RBI.

Typically, after a merger with a foreign company, an Indian company would be dissolved without winding up and its shareholders would be entitled to shares in the foreign company. Due to the far-reaching implications of such a transaction from a regulatory perspective, particularly in cases involving listed companies, immense care is needed while amending the relevant legislation to regulate such transactions, including laws governing securities,
foreign exchange and competition.

Further, tax and accounting implications form a major consideration while structuring mergers. Accordingly, provisions of the Income Tax Act, 1961, must be modified including in relation to the terms and conditions for making such mergers tax neutral. Various accounting and auditing standards must also be reviewed and appropriately modified. Adequate safeguards must be built into the above legislation to prevent abuse.

Another aspect that needs to be closely monitored is the jurisdictions with whose companies the government may permit such cross-border mergers. Most countries, particularly developed ones, have sophisticated laws and procedures to regulate both inbound and outbound mergers. Since a merger between two companies situated in different jurisdictions necessarily involves both countries’ corporate and securities laws, foreign exchange laws, competition laws, taxation laws and accounting policies, the government must do some due diligence to obviate glaring inconsistencies in these, which could make it difficult, if not impossible, to implement a merger.

The proposal is a progressive step and may pave the way for some creative thinking for restructuring of businesses. However, clarity on various aspects of the structuring and regulatory framework is required. This is an opportunity for the government to develop an investor friendly yet effective regulatory framework and send the right signals to the world.

Kunal Mehra is a principal associate-designate at Amarchand & Mangaldas & Suresh A Shroff and Co, New Delhi. The views expressed in this article are those of the author and do not reflect the position of the firm.