Squeezing out the minority: new approach
Squeeze out refers to the right of a majority shareholder, holding shares above a certain threshold, to acquire shares held by the minority shareholders, thereby providing them exit from the company. Under the Companies Act, 2013 (Act), there are existing mechanisms for buying out the minority shareholders. These include reduction of share capital under section 66 of the Act, purchase of minority shareholding pursuant to section 236 of the Act, acquisition of shares under section 235 of the Act.
The notification dated 03 February 2020 (Notification), issued by the Ministry of Corporate Affairs (MCA), notifying sections 230(11) and (12) of the Act has paved the way for squeezing out the minority shareholders. To ensure implementation of these provisions, the MCA has also made necessary amendments to the existing rules and notified them under the Companies (Compromises, Arrangements and Amalgamations) Amendment Rules, 2020 and the National Company Law Tribunal (Amendment) Rules, 2020 (collectively Rules).
This article discusses the concept and the procedural aspects of the new route made available to the majority shareholders for buying out the shares held by the minorities.
The Notification permits the shareholders of an unlisted company holding not less than three- fourth of the shares of such company, to make a takeover offer for acquiring the remaining shares of the minority shareholders. The takeover offer is to be made pursuant to an application of compromise or arrangement filed before the National Company Law Tribunal (NCLT) under section 230 of the Act and is required to follow the compliances set out in the said section (as already in force for matters relating to compromises and arrangements). The scheme containing the takeover application is required to be approved by the creditors/members or the relevant class of creditors or members. Further, the Act also requires sending out the copy of the application to all regulatory authorities, such as central government, income tax authority, Reserve Bank of India, Securities and Exchange Board of India (SEBI), Registrar of Companies, Competition Commission of India and other such sectoral regulators or authorities, as applicable.
Once NCLT approves the takeover application, the order binds all the minority shareholders to sell their shares to the majority shareholders. The Rules clarify shares, for the purposes of minority squeeze out under this route, would mean the equity shares of the company carrying voting rights, and includes any securities, such as depository receipts, which entitles its holders to exercise voting rights.
This new method of minority buy-out through NCLT approved takeover offer is applicable only for unlisted companies. In case of acquisition of shares of a listed company, the regulations prescribed by SEBI will have to be followed.
Additionally, the new takeover offer is not applicable to any transfer or transmission of shares through a contract, arrangement or succession (as the case may be), or any transfer made in pursuance of any statutory or regulatory requirement.
In addition to the other information/documents to be filed for compromises or arrangements with NCLT under section 230 of the Act, the Rules provide that the takeover offer is also required to be accompanied with the report of a registered valuer. The report must disclose the details of the valuation of the shares proposed to be acquired. In terms of the Rules, the following factors are required to be considered viz.-à-viz. the valuation, for arriving at the price:
(a) the highest price paid by any person or group of persons for acquisition of shares during the last 12 months.
(b) the fair price of shares of the company to be determined by the registered valuer after considering valuation parameters including return on net worth, book value of shares, earning per share, price earning multiple viz.-à-viz. the industry’s average and such other parameters that are customary for valuation of shares of such companies.
Additionally, the acquiring members are required to open a separate bank account and deposit at least 50% of the total consideration of the takeover offer in such bank account prior to making an application to the NCLT. The details of such bank account are required to be provided to the NCLT along the application documents.
Protection offered to minority shareholders
In addition to the existing rights given to the shareholders and creditors under section 230(4) of the Act to object to a scheme of arrangement or compromise, the newly notified section 230(12) offers an additional protection to the minority shareholders.
Under this, the minority shareholders can file an application with the NCLT in the event of any grievances with respect to the takeover offer. Such application is to be accompanied with the following documents:
(a) an affidavit verifying the petition;
(b) a memorandum of appearance along with a board resolution or vakalatnama (as the case maybe) authorizing the person appearing on behalf of the minority shareholders and executing the relevant documents;
(c) documents in support of the grievances against the takeover offer; and
(d) any other relevant documents.
The Notification and the Rules provide an additional way to the majority shareholders to structure shareholdings in Indian private companies and open additional avenues for completely squeezing out the minorities.
The requirement of valuation report and deposit of funds into escrow though acts as a balancing mechanism for protecting the interest of minority shareholders viz.-à-viz. the takeover process.