The Securities and Exchange Board of India (SEBI), in its meeting on 14 January, proposed revisions to the regulatory framework governing the merger of an unlisted company with a listed company.
The existing regime comprises: (a) the SEBI circular dated 30 November 2015 setting out the guidelines for schemes of arrangement/merger of listed entities, and relaxation from the requirements under the Securities Contracts (Regulation) Rules, 1957; and (b) the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015.
Many companies view a merger with a smaller listed entity as a convenient and shorter route to listing as compared to an initial public offering (IPO). SEBI’s proposed revisions aim at ensuring a fair merger of a large unlisted company with a smaller listed company, where such merger is not detrimental to the interests of public shareholders of the listed company.
Disclosure of material information: Companies listing through an IPO need to comply with the detailed procedure set out in the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 (ICDR), and disclose all material information in the offer document. In contrast, listing by merging with a listed company does not stipulate any analogous disclosure requirement.
In the past, SEBI has encountered schemes which failed to provide adequate information about the unlisted company. Therefore, SEBI’s proposal mandates disclosure of material information by unlisted companies in an abridged prospectus.
Minimum public shareholding: The existing regime envisages a merger of a listed transferor entity with an unlisted transferee entity, and requires that at least 25% of the post-scheme paid-up share capital of the resultant entity be allotted to public shareholders of the listed entity. This provision allows scope for exploitation in cases where an unlisted entity merges with a listed entity. In certain previous mergers, SEBI had expressed concerns where the pre-scheme public shareholding of the listed entity was reduced to minuscule levels after merger. Fearing further dilution of the public shareholding, SEBI also rejected the option of an open offer to public shareholders of the listed company.
Against this backdrop, SEBI proposes that the shareholding of pre-scheme public shareholders of the listed entity and the qualified institutional buyers (QIBs) of the unlisted company be maintained at a minimum of 25% in the resultant entity. This will protect public shareholders of smaller listed entities upon merger with bigger unlisted entities. However, where QIBs have significant shareholding, the interest of public shareholders of listed entities could still be compromised.
Applicability of ICDR: In the absence of clear guidelines on pricing, a company can circumvent the provisions of ICDR by allotting shares of the listed entity to shareholders of unlisted entities through preferential allotment, as consideration for the merger. To curb such circumvention, SEBI proposes that ICDR’s pricing formula will apply for share allotment to select shareholders instead of all shareholders under a scheme.
Shareholder approval: SEBI seeks to expand the list of cases requiring shareholder approval to include cases where the reduction in voting share percentage of pre-scheme public shareholders is more than 5% of the total share capital of the merged entity. This proposal, too, aims to protect against drastic dilution in shareholding of pre-scheme public shareholders. Approval will also be required where all or substantially all of the undertaking of the listed company is transferred and the consideration is not through listed equity shares. Lastly, approval will be required where an unlisted subsidiary merges with a listed holding company and the holding company acquires shares of the unlisted subsidiary directly or indirectly from the promoters/promoter group.
SEBI also proposes that companies must submit a compliance report, and that unlisted companies can only merge with entities listed on nationwide trading terminals. As a benevolent move, SEBI seeks to exempt mergers of wholly owned subsidiaries from the requirement of filing the scheme with SEBI. Such schemes would only need to be reported to stock exchanges.
While most of SEBI’s proposals are laudatory, genuinely valued mergers could fall prey, especially in respect of dilution of shareholding. A definitive view, however, will depend on how the proposals translate to amendments in the regulations.
Iqbal Khan is a partner and Tanavi Mohanty is an associate at Shardul Amarchand Mangaldas. The views and opinions expressed in this article are solely those of the authors and do not necessarily reflect the official view or position of the firm.