Schemes of Arrangement under the Scanner
Listed Companies made subject to stricter scrutiny and multilevel approvals
-Megha Mittal
With the objective of empowering the stock exchanges and streamlining the processing of draft schemes filed with the stock exchanges, the Securities and Exchange Board of India has issues a Circular dated 3rd November, 2011[1] (“Amendment Circular”) thereby amending the Circular dated March 10, 2017[2] (“March, 2017 Circular”) which lays down the framework for Schemes of Arrangement by listed entities and relaxation under Rule 19(7) of the Securities Contracts (Regulation) Rules, 1957.
The Amendment Circular shall be effective for scheme submitted to the Stock Exchange after 17th November, 2020 and for those companies which are either listed, seeking to be listed or awaiting trading approval after 3rd November, 2020.
Schemes of Arrangement is unarguably a material event for the listed company, and as such, optimum transparency, disclosure by the company, coupled with stringent checks by the Committees, viz Audit Committee and Committee of Independent Directors, becomes a very crucial factor for decision making by the shareholders.
The Amendment Circular primarily aims at ensuring that the recognized stock exchanges refer draft schemes to SEBI only upon being fully convinced that the listed entity is in compliance with SEBI Act, Rules, Regulations and circulars issued thereunder. While the amendments introduced, bring to light the tenet of the regulatory bodies to ensure higher levels of transparency and disclosures with respect to the proposed schemes, there also seems to be an underlying tone of stress and responsibility that has been imposed on the Audit Committee and Independent Directors to assess the viability of the proposed Schemes.
In this article, the author has given a detailed comparison of the provisions, before and after the Amendment Circular, along with comments on the same.
| Para No. | Subject | Pre-Amendment
(as per Mar’17 circular) |
Post Amendment
(w.e.f. 18.11.2020) |
Remarks |
| A (2) (c) | Report from Audit Committee on Valuation Report | Report from the Audit Committee recommending the Draft Scheme, taking into consideration, inter alia, the Valuation Report. The Valuation Report is required to be placed before the Audit Committee of the listed entity
|
Report from the Audit Committee recommending the Draft Scheme, taking into consideration, inter alia, the Valuation Report.
The Valuation Report is required to be placed before the Audit Committee of the listed entity. The Audit Committee report shall also comment on the following:
§ Need for merger/ demerger/ amalgamation/arrangement § Rationale of the scheme § Synergies of business of the entities involved in the scheme § Impact of the scheme on the shareholders. § Cost benefit analysis of the scheme.
|
While the requirement of prior consideration of the Valuation Report by the Audit Committee remains as is, the Amendment Circular has laid down specific factors which must necessarily be considered and commented upon by the Audit Committee.
This is line with the broader objective of the Amendment Circular to ensure a stricter scrutiny of Scheme before they are proceeded with. Having said so, it is important to acknowledge that the contents on which the comments of the Audit Committee is forms part of all schemes in general- while other aspects refer to qualitative aspects, a cost-benefit analysis takes care of the numerical and quantitative front. By way of the said requirement, it can be said that the discussion on the said aspects of the Scheme, which is otherwise a purely managerial function, has also been made subject to consideration by the Audit Committee.
|
| A (2) (i) | Report from Committee of Independent Directors
|
(new insertion) | Report from the Committee of Independent Directors recommending the draft Scheme, taking into consideration, inter alia, that the scheme is not detrimental to the shareholders of the listed entity.
|
In addition to the existing list of documents required to be submitted, the Amendment Circular, by way of insertion of para A (2) (i), requires that a report also be sought from a “Committee of Independent Directors” of the listed companies, so as to obtain an un-biased reporting stating that the scheme is in not detrimental to the shareholders of the listed entity.
Several issues may be raised in the said given context, viz- (a) Report by the Committee of Independent Directors- It is crucial to note that across all regulations/ rules issued by SEBI, the concept of a “committee” of independent directors is not recognized, other than a single exception being in case of an open offer under the SAST Regulations. Hence, requirement of a report by such Committee of IDs would require explicit constitution of such committee, comprising of all IDs. Furthermore, given that such “committee” is an alien concept in this context, it would be constituted as an ad-hoc committee, and not a standing committee. (b) Onus of ascertaining detriment, imposed on the IDs Requirement of a report to state that there is no detriment being caused to the shareholders would impose a significant onus upon the committee of IDs, as the question of detriment is highly prone to objection and/ or litigation. Further, stating that there no detriment to shareholders is a rather wide statement as its ambit includes all classes of shareholders. Hence, the IDs would be required to act and report with extreme caution and care. |
| 4 (a) | Valuation Report | All listed entities are required to submit a valuation report from an Independent Chartered Accountant
|
All listed entities are required to submit a valuation report from a Registered Valuer.
“For the purpose of this clause, the Registered Valuer shall be a person, Registered as a valuer, having such qualifications and experience and being a member of an organization recognized, as specified in Section 247 of the Companies Act, 2013 read with the applicable Rules issued thereunder”
|
The instant Amendment is technical update, so as to bring the March, 2017 circular in line with the extant valuation requirements.
With the notification and enforcement of the Companies (Registered Valuers and Valuation) Rules, 2017, the Valuation Reports are now required to be obtained from valuers registered under the aforementioned rule, who may or may not be Chartered Accountants. |
| 9 (b) (v) | Approval of Scheme by the shareholders
|
Explanation to 9 (b) (v):
For the purpose of this clause, the expression “substantially the whole of the undertaking” in any financial year shall mean twenty per cent or more of value of the company in terms of consolidated net worth or consolidated total income during previous financial year as specified in Section 180(1)(a)(i) of the Companies Act, 2013.
For the purpose of this clause, the term ‘public’ shall carry the same meaning as defined under Rule 2 of Securities Contracts (Regulation) Rules, 1957
|
Amended Explanation:
For the purpose of this clause, the expression “substantially the whole of the undertaking” in any financial year shall mean twenty percent or more of value of the company in terms of consolidated net worth or consolidated total income during previous financial year as specified in Section 180(1)(a)(ii) of the Companies Act, 2013
For the purpose of this clause, the term ‘public’ shall carry the same meaning as defined under Rule 2 of Securities Contracts (Regulation) Rules, 1957
|
By way of the instant amendment, the reference for ascertaining whether the scheme involves transfer of substantially whole of the undertaking, is required to be computed as per sub- clause (ii) of the section 180 (1) (a), instead of sub-clause (i).
The amendment seems to be a rectification amendment to provide reference to the correct clause of section 180. While the reference stands corrected, it is important to note that the SEBI circulars refer to the consolidated “net worth” vis-à-vis net worth of the company as mentioned in section 180 (1) (ii). A probable explanation to this deviation is that the SEBI Circular take into consideration the consolidated value of undertaking of all the parties to the Scheme. |
| B (4) | Obligation of the Stock Exchange to provide a No/ Observation Letter | Stock Exchanges shall provide the ‘Observation Letter’ or ‘No-Objection’ letter to SEBI on the draft scheme. In case of companies listed exclusively
on Regional Stock Exchanges, SEBI shall issue Comment letter upon receipt of Observation Letter’ or ‘No-Objection’ letter from the Designated Stock Exchange.
In other cases, SEBI shall issue Comment letter upon receipt of ‘Observation Letter’ or ‘No-Objection’ letter from Stock Exchanges having nationwide trading terminals.
|
Stock Exchanges shall provide the ‘No- Objection’ letter to SEBI on the draft scheme; in co-ordination with each other. SEBI shall issue Comment letter upon receipt of ‘‘No-Objection’ letter from Stock Exchanges having nationwide trading terminals.
In other cases, SEBI shall issue Comment letter upon receipt of ‘‘No-Objection’ letter from the Designated Stock Exchange
|
By way of the instant amendment, the concept of a no/observation letter has been done away with.
With effect from the applicability of the Amendment Circular, SEBI can only issue a no-objection letter upon receipt of a similar NoC by the Stock Exchange. Hence, unless the draft Scheme is free of observations, if any, by the Stock Exchange, SEBI is not entitled to endorse the no-objection letter. This would ensure that SEBI does not turn up issuing a no-objection letter in the matter of Scheme in which the Stock Exchange has any observations. |
| C(1)
and C (2) (c) |
Deletion of the word “Observation Letter” | C (1)
Upon receipt of an “Observation Letter’ or ‘No-Objection’ letter from the Stock Exchanges, SEBI shall provide its comments on the Draft Scheme of arrangement to the Stock Exchanges.
While processing the Draft Scheme, SEBI may seek clarifications from any person relevant in this regard including the listed entity or the Stock Exchanges and may also seek an opinion from an Independent Chartered Accountant.
|
Amended C (1)
Upon receipt of ‘No-Objection’ letter from the Stock Exchanges, SEBI shall provide its comments on the Draft Scheme of arrangement to the Stock Exchanges.
While processing the Draft Scheme, SEBI may seek clarifications from any person relevant in this regard including the listed entity or the Stock Exchanges and may also seek an opinion from an Independent Chartered Accountant.
|
The deletion is merely a technical amendment to bring the clause in line with the amendment in para B (4), that is, doing away with the concept of “Observation Letter” |
| C (2) (c)
date of receipt of Observation Letter’ or ‘No-Objection’ letter from the Stock Exchanges
|
Amended C (2) (c)
date of receipt of ‘No-Objection’ letter from the Stock Exchanges
|
|||
| III (A) (5) | Additional conditions for seeking relaxation from strict enforcement of any or all requirements under Securities Contracts (Regulation) Rules, 1957
|
Summarised provision-
§ It must be ensured that trading in securities commences within 45 days of order of NCLT.
§ Before commencement of trading, the transferee entity shall give an advertisement in one English and one Hindi newspaper with nationwide circulation and one regional newspaper with wide circulation at the place where the registered office of the transferee entity
§ Enlists 15 different types of documents that must be disclosed in the aforementioned advertisement/ disclosures, spanning from primary details such as name, registered office, capital structure, pre and post scheme shareholding pattern, details of promoters, financial statements, details of group companies, outstanding litigation etc.
|
Summarised Amended provision-
§ It must be ensured that all steps for listing of specified securities are complete, and trading in securities commences within 60 days of order of NCLT
§ Before commencement of trading, the transferee entity in addition to disclosing the information in the form of an information document on the website of the stock exchange/s shall also give an advertisement in one English and one Hindi newspaper with nationwide circulation and one regional newspaper with wide circulation at the place where the registered office of the transferee entity is situated.
§ The list of disclosures to be given in the aforementioned advertisement has been further diversified to encompass practically all such details that may impact decision making and the interests of the shareholders. |
While providing an increased timeline for ensuring listing, the instant amendment further complements the objective clearly reflected from the Amendment Circular, that is, a stricter scrutiny and increased transparency so as to ensure maximum protection of the interests of the shareholders of the listed company.
A noteworthy point here is that the list of disclosures requires details of the group companies of the disclosing listed company. However, the term group company is not defined in either of the Circulars; and as such leaves an open end as what would be the ambit of the term “group”. Further, the purpose for which details of the group companies is required remains unclear, as all details relevant to the Scheme and the parties to the Scheme are already being provided. |
Repealing provisions for listing of Equity Shares with Differential Rights:
In addition to the amendments discussed above, the Amendment Circular has also repealed provisions for application by listed entity for relaxation from strict enforcement of the Securities Contract Regulation Rules, 1957, (“SCR Rules”) while listing of Equity Shares with differential rights, other than by IPOs.
The said repealment seems to be introduced to bring the March, 2017 Circular in line with the SEBI (Issue of Capital and Disclosure Requirements) (Third Amendment) Regulations, 2019[3] (“ICDR Amendment, 2019), effective from 29th July, 2019, which lays down several conditions that must be considered while issuing DVRs, which may either be Fractional Rights or Superior Rights.
It must be noted that clause Para III (B) of the March, 2017 provided that relaxation from requirements under Rule 19 (2) (b) shall be provided if “such equity shares are issued to all the existing shareholders as on record date by way of rights or bonus issue”.
The above requirement implies that the issue must be made to all shareholders, irrespective of whether the DVR is a Fractional Right or Superior Right. However, the same became stale in view of the ICDR Amendment, 2019 introduced in line with the Consultation Paper dated 20th March, 2019[4] which categorises DVR as FRs and SRs and provides for separate issuance conditions respectively[5].
Hence, with a view to synchronize the March 2017 Circular with the revised guidelines for issue of DVRs, para III (B) has been repealed.
Conclusion
From the above analysis, it can be said that the amendments introduced are in the nature of updates as well as substantial modifications/ additions. It now requires listed companies to be all the more transparent with their dealing and transactions. While it is nothing but beneficial for the shareholders of such listed companies, it may prove to be an added burden for these listed companies which already have a long list of disclosures and compliances to ensure.
[1] https://www.sebi.gov.in/legal/circulars/nov-2020/schemes-of-arrangement-by-listed-entities-and-ii-relaxation-under-sub-rule-7-of-rule-19-of-the-securities-contracts-regulation-rules-1957_48064.html
[2] https://www.sebi.gov.in/legal/circulars/mar-2017/circular-on-schemes-of-arrangement-by-listed-entities-and-ii-relaxation-under-sub-rule-7-of-rule-19-of-the-securities-contracts-regulation-rules-1957_34352.html
[3] https://www.sebi.gov.in/web/?file=https://www.sebi.gov.in/sebi_data/attachdocs/oct-2020/1602139048088.pdf#page=1&zoom=page-width,-15,842
[4] https://www.sebi.gov.in/reports/reports/mar-2019/consultation-paper-on-issuance-of-shares-with-differential-voting-rights_42432.html
[5] See detailed discussion in- http://vinodkothari.com/2019/03/sebi-proposes-to-restructure-the-issuance-of-shares-with-dvrs/
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