SEBI Takeover Watchman: 2010

August 11, 2010

Takeover Regulations Advisory Committee (TRAC) of SEBI was set up to improve upon the existing regulations for Takeover of listed companies. If there is one single reason why this report is damned, it is its failure to look into the matter of takeovers which involve the substantial or complete takeover of listed companies sans the acquisition of shares.

Some fundamental issues:

CONSTITUTION OF TRAC

A practical approach is missing in the constitution of the committee which has been overloaded in favour of the legal fraternity and people who need to maintain a well-oiled communication pipeline with the regulator. Just like Private companies where independent directors are required to be on the board for better corporate governance, SEBI should have had on its own committee independent persons. Such persons could be scholars/educationist, independent company secretaries or Chartered Accounts, small investors who have been assisting SEBI by constantly bringing out to its notice any discrepancy in takeover offers.
One would have appreciated some representatives from the organised investors –Insurance companies, Mutual Funds, and such professional bodies as Institute of Chartered Accountants & company secretaries, share brokers, retail investors, Investor association who are actually taking visible interest in Takeovers etc were invited on board. Now that the finalization is pending, it might be the right idea to put forward the public feedback together with the counter comments by the TRAC, to such a finalization committee for finalization.

CONTROL

The aim of any “Takeover” is Acquisition of “Control” , acquisition of shares is only one of the means by which the objective of Acquisition of Control can be achieved. Control can be acquired without acquiring shares. This fact has been recognized by both the SAST 1997( Regulation 12) and SAST 2010 (Regulation 4) which covers cases of takeover of companies without acquisition of shares.

In spite of such regulations being in place, many high flying takeovers have taken place recently without triggering an open offer.

Company Market Cap. G Crs. (date) Deal size G Crs. Trigger at 15% G Crs.
Indo Asian Fuse Gear 175 (23.7.10) 530 26.25
Piramal Health 10425 (23.7.10) 16,700 1564
Orchid chemicals 1500 (15.12.09) 1860 225
Zicom 103 (23.7.10) 224.75 15.45
Gwalior Chemicals(GEE CEE) 133 (23.7.10) 536 19.95
Eicher Motors 2675 (23.7.10) 1575 401

The Committee observed( Page 29, 3.6) “ that it was desirable to underline and emphasize that acquisition of de facto control, and not just de jure control should expressly trigger an open offer obligation.”

Some of the wise men who sat on the committee (TRAC) were also advisors to these transactions and have advised them that as per SAST 1997 Open offer is not triggered. This makes the task of such members of the TRAC more onerous
(a) to disclose their conflict of interest and
(b) to suggest the means of tightening the provisions so that no one who de facto acquires the control can escape his obligation of coming out with an Open offer. Or
(c) to transparently make it clear to all the players that acquisition of control through asset purchase, even if it is 100% of the company’s assets/activity, has been expressly kept outside the ambit of these regulations.

No one can deny that de facto control has been acquired in the above cases where the acquirer have acquired substantial or almost the entire operations of the company lock stock & barrel-- employees included. But nothing has been done to either redefine “control” to include control over substantial part of the activities of the company, by virtue of purchase or otherwise of the plant/ factory/workshop/office or any other set-up by whatever name called.
Similarly it was suggested by me that the definition of Company be also suitably changed to include the manufacturing facilities-factories, workshop, offices, research laboratories etc. owned or operated either directly or through a subsidiary. But SAST 2010 defines a company as --“ Company” includes a body corporate.” As of now a company means only a paper company -- Board of Directors and/or register of members.

OFFER SIZE

TRAC recognized the need of encouraging takeovers yet its suggestions are likely to do just the opposite. Having raised the size of Open offer, it has made takeover activity that much more difficult. Some points against 100% offer size that must be considered are:
 TRAC admitted takeovers play an important role in the economic development of a country – so encourage more takeovers, by (a) keeping the trigger points low, say unchanged at 15% and (b) more manageable by keep the offer size reasonable,
 very few offers get oversubscribed, no need to increase the size.
 Funding is not easily available in India for purchase of shares
 It oversteps other regulations—delisting regulation
 Delisting exercise is rewarding for the investors and painful for the promoters. The investors will lose this edge.
 If more companies get delisted, the market cap of India Inc. will get reduced and investors will have lesser investment opportunities.
 Offer size-my suggestion is –higher of any (i) 20% or (ii) Minimum of 50% Public holding or such level that does not exceed the maximum permissible non public holding (MPNP Holding)
 For companies with low promoter holding, say 15-20% it will be prohibitive for the acquirer. Data reveals that during the last four years, in less than 15 % of the open offers, the offer size has been higher than 20 %.

TRIGGER POINT

The trigger point has been increased from 15% to 25% . This is not a desirable step for the following reasons:
 Smaller trigger point means more Takeovers & Open offers, Investors interest & excitement in the investment activity is maintained
 Stops mismanagement of companies—any large investor can come out with an Open offer of 20% or 26% or otherwise acquire some shares from the market to keep his holding at 26% sufficient to block any Special Resolution and keep a check on the management. Under SAST 2010 there cannot be any such checks on the management

OFFER PRICE

 The offer price should not only be the highest of negotiated price, volume weighted average price, or price paid/payable for acquisition, but also the highest price at which the acquirer has sold the shares or the Company has issued the shares during the offer period.
 The 2 week period as one of the criteria must be retained as that acts as a check on the clandestine activity of the acquirer or insider. It has been observed that the 2 week price is, in majority of the cases, higher than 26 week price, indicating some insider trading or any clandestine activity.
 In case of delayed offers, the offer price should be additionally calculated with reference to the date of announcement of the offer and the highest of the price arrived at must be the offer price. In the recent past there have been several cases where the defaulter acquirer kept on delaying the offer for years and when the market price became higher than the price he was liable to pay even after adding interest, he announced the offer just to legally fulfill his obligation. Thus instead of punishment, the defaulter got rewarded.
 SAST is applicable only to listed cos whose shares are being traded in the SE, yet , TRAC was considering not to recognize the market price at all. It recommended a “transition to a regime, in which the offer price has no linkage with the market price parameter” Nothing can be more demeaning to the market than this. This is unthinkable.

Clause wise comments are given below:

Public comments on Report of the Takeover Regulations Advisory Committee
may be sent to trac@sebi.gov.in by August 31, 2010 in the following format:-

Sr. No. Draft Provision /
Recommendation
of the Committee Comment Rationale

1. Reg 2 (1) (f)
Definition of a company A company should be defined inter-alia to include the manufacturing facilities-factories, workshop, offices, research laboratories etc. owned or operated either directly or through a subsidiary. Regulation 2(b) while defining “Acquirer” states … ‘any person who, …. acquires or agrees to acquire control over the target company.’ but in the absence of such a definition, company is assigned a very narrow definition of a paper company- Board Room or register of members. People with vested interest argue that if the acquirer has not acquired control over the Board of Directors, he has not acquired control although functionally he may have acquired the control over the entire company—its factory and entire work force, as in the case of Piramal health(G 16,700 Crs.),Gwalior Chemicals (G 536 Crs.), Indo Asian Fuse ( G 530Crs)., The Committee observed( Page 29, 3.6) “ that it was desirable to underline and emphasize that acquisition of de facto control, and not just de jure control should expressly trigger an open offer obligation.”
2. Reg 2 (g) Definition of control “control” should be defined to include control over substantial part of the activities of the company, by virtue of purchase or otherwise of the plant/ factory/workshop/office or any other set-up of a company by whatever name called.
Include here the same parameters as prescribed u/r 8(4) of SAST i.e. in case such purchase of an undertaking results in (a) more than 15% of net asset value being transferred or (b) transfer of assets contributing more than 15% of sales turnover or (c) the value of such sale of asset/entity/plants is in excess of 15% of the market capitalization of the target co. In the recent past there has been some very high flying takeovers that have successfully bypassed the SAST 1997 although the amount involved were as high as 16,700 Crs.
the acquirer seems to have taken a plea he has not acquired control over the co. because he has not purchased its shares nor is he sitting on the Board of the co. although functionally he may have acquired the control over the entire company—its factory and entire work force, as in the case of Piramal health(G 16,700 Crs.),Gwalior Chemicals (G 536 Crs.), Indo Asian Fuse ( G 530Crs)., The Committee observed( Page 29, 3.6) “ that it was desirable to underline and emphasize that acquisition of de facto control, and not just de jure control should expressly trigger an open offer obligation.”
3. Reg 2 (1) (k)
Frequently traded shares Frequently traded shares has been defined as where traded turn over in a year 10% of total number of shares The present 5% norms are OK and serving well. Making it 10% will mean more cos will have to be valued separately making the takeover exercise more cumbersome and challengeable. We have seen Cadbury’s case how such valuations change.
4. Reg 2 (1) (l) Identifed date Why unnecessarily change an already accepted nomenclature—specified date There is no need to unnecessarily tweak the definition. “ Identified date” is supposed to mean the same as Specified date which has been in prevalence for years and well understood by all. Why create an avoidable confusion.
5. Reg 2 (1) (r )
“Persons acting in concert” It should be expressly provided that there are 2 contra parties in any deal – a seller & a buyer. They cannot become PAC of each other similarly PAC of Seller/ buyer cannot become PAC of the opposite party. It is unconceivable that the seller can have “common objective or purpose of acquisition of shares” with the buyer, yet In the Open Offer of Tata Teleservices (Maharashtra) Ltd.
Tata Sons Ltd. (TSL) was named as PAC (person acting in concert) with the acquirer NTT DOCOMO INC although TSL was a seller.
6. Reg 2 (1) (ab) Change to – ‘ tendering period means the period determined after the final approval Letter of Offer & schedule of activity by SEBI, within which shareholders may tender their shares in acceptance of an open offer to acquire shares made under these regulations.’ tendering period has been referred at many place and must have a practical definition. It is more of rule than exception that Open offer do not Open as first schedule given in the PA
7. 3(1) Trigger point Do not change The trigger point from 15% to 25%  Smaller trigger point means more Takeovers & Open offers, Investors interest & excitement in the investment activity is maintained
 Stops mismanagement of companies—any large investor can come out with an Open offer of 20% or 26% or otherwise acquire some shares from the market to keep his holding at 26% sufficient to block any Special Resolution and keep a check on the management. Under SAST 2010 there cannot be any such checks on the management

8. Reg 4—
Acquisition of control The prevalent ambiguity should be removed by changing the definition. Suggested rephrasing of the regulation4 is “Irrespective of acquisition or holding of shares or voting rights in a target company, no
acquirer shall acquire, directly or indirectly, control over such target company or substantial part of its Plants/undertaking/ facilities/employees unless the
acquirer makes a public announcement of an open offer for acquiring shares of such target
company in accordance with these regulations.” Some of the wise men who sat on the committee (TRAC) were also advisors to some transactions and have advised them that as per SAST 1997 Open offer is not triggered when control is acquired by not purchasing shares but by purchasing the undertaking/ plants. to transparently make it clear to all the players that acquisition of control through asset purchase, even if it is 100% of the company’s assets/activity, has been expressly kept outside the ambit of these regulations.

9. Reg 6
Voluntary offer Omit this--No need for having a special size of offer of 10%
under the creeping offer provisions a promoter is allowed to Acquire 5% in each financial year (Reg 3(2) of SAST 2010). This means that in actual terms within a period of less than 12 calendar months or may be as less as 2 calendar months he can acquire 10% . There is no need for this special provision.
10. Reg 6 (1)
Voluntary offer Change the provision that denies this opportunity, for having bought shares in cash in 52 or at least put a ceiling –say 1% or so If it is decided to allow voluntary offer, why deny this on such a trivial pretext of having bought may be one share in cash?
11. Reg 7-
Offer size Offer size should not be made 100%
It should be –higher of any (i) 20% or (ii) Minimum of 50% Public holding or such level that does not exceed the maximum permissible non public holding (MPNP Holding) whichever is lower.
TRAC recognized the need of encouraging takeovers yet its suggestions of 100% offer size is likely to do just the opposite. Having raised the size of Open offer, it has made takeover activity that much more difficult. Some points against 100% offer size that must be considered are:
 TRAC admitted takeovers play an important role in the economic development of a country – so encourage more takeovers, by keeping the offer size reasonable,
 very few offers get oversubscribed, no need to increase the size.
 Funding is not easily available in India for purchase of shares
 It oversteps other regulations—delisting regulation
 Delisting exercise is rewarding for the investors and painful for the promoters. The investors will lose this edge.
 If more companies get delisted, the market cap of India Inc. will get reduced and investors will have lesser investment opportunities.

12. Reg 8 (6)-
Offer price Rephrase it to say “Where the acquirer has transacted in any manner or acquired or agreed to acquire whether by himself or through or…..”
with persons acting This is considered necessary to suitably reward the public shareholders and act as a deterrent against the acquirer indulging in speculative & trading activity in the shares of the target co. as happened in the case of Great Offshore.
SAST 2010 has recognized this fact that an acquirer may even sell -18 (6)
13. Reg 8 (6)-
Offer price After subclause (6) insert a new clause stating “ In case of an Offer where the Acquirer has failed to come out the Offer price shall be computed as of the date of the action that triggered Open offer and as of the date of public announcement for the target company, whichever is higher, shall be payable” In the recent past there have been several cases where the defaulter acquirer kept on delaying the offer for years and when the market price became higher than the price he was liable to pay even after adding interest, he announced the offer just to legally fulfill his obligation. Thus instead of punishment, the defaulter got rewarded.

14. Reg 8 (7)-
Offer price (a) The last line of first para needs to be changed to “The price parameters…till the of date payment under the offer.”
(b) add a clause that ‘all the benefits of corporate action till the time payment under the offer has been completed shall accrue to the benefit of the shareholder’
(c) Change the last para to “Provided that no adjustment shall be made if the dividend declared is less than 10% of the closing market price on the previous day of the record date.” (a) The language in its present form means that if there is a corporate action --say (as announced recently by Resurgere mines 2 bonus shares for 1 share and Face Value to be split from 10 to 1, 1 share will become 30 shares) record date for which falls , 2 days prior to commencement of the tendering period, the investor will be able to tender 30 shares instead of 1 and get paid at the pre bonus price!! This cannot certainly be the intention of the regulation.
(b) Since as suggested price will be adjusted for corporate action till payment is made, the benefit thereof should naturally go to the shareholder.
(c) The impact less than 10% of the market price is should be ignored is a well accepted norm prevalent in the F & O segment of the market. The same has been suggested here.

15. Reg 8 (9)-
Offer price Add a para “ similarly, in case of default in announcing an Open offer, the offer price shall stand enhanced by an amount equal to a sum determined at the rate of ten per cent per annum for the period
between the date on which the primary acquisition is contracted, and the date on which payment is actually made after the delayed announcement of the offer. And in case of offers announced I n time but yet delayed beyond 3 months, the offer price shall stand enhanced by an amount equal to a sum determined at the rate of ten per cent per annum for the period after 3 months from the originally scheduled date of payment
and the date on which payment is actually made. It has been observed that even after regulation 44(i) was amended in 2002, there is no strict implementation of that regulation. In case of Falcon tyres, interest was not paid to all the shareholders, whereas in almost all other such cases interest was paid to all the shareholders.

16. 9(5) –
Mode of payment The basis of valuation of listed securities offer should be kept same as has been provided in 8(2)  This will maintain uniformity
 Reduce chances of price manipulation
 Is fair to all
17. 10(1)-
Exemption 10(1) (h) add another clause (i) Acquisition of voting rights or proxies not on permanent basis but for specific meeting or resolution. No obligation should be cast on a shareholder or a group of shareholder who, without the intention of acquisition, some shareholders may join hands to defeat some specific resolution, by collecting voting rights or Proxies.
18. 13(2) (a) -
Timing,Public announcement The first line may be redrafted as “in the case of market purchases shall be made next day of placement of the purchase order..” Public announcement prior to placement of order may not be practical. Because of such announcement the acquirer may fail to get any share at all
19. 14 (3)-
Publication All edition should be removed. Add e mail notification will be sent to all the shareholders of the company or all the DP a/c holders in the country  The cost of such advertisement will become very high and may not serve the purpose.
 E-mails will be more effective & environment friendly.
20. 15 –
Contents The format of PA presently in existence, is serving the purpose well, the same should be retained and the following should be added:
(g) Separate PA for each company should be issued
(h) PA should not contain any matter not related to the target company. In case of takeover of Dunlop & Falcon one common PA was issued creating a lot of confusion in reading and understanding the information. A shareholder of One co. should not be forced to read information of another co. unrelated to him.
21. 17(1) –
Provision of Escrow Retain the old provision  Old provision is serving well.
 One cannot recollect a case where it has failed.
 With the size of the offer going up, the amount will take a quantum jump
 There have been many cases of long delays where such money lie idle with out any benefit accruing to either to the Acquirer or the shareholder.
22. 17(8) & 17 (10) (c) & other places–
Provision of Escrow Insert 10%- “The manager to the open offer shall not release 10% the escrow account…” There is no point in blocking the escrow account for thirty days after completion of payment. At best 10% can be held back to take care of any contingencies.
23. 17(8) –
Provision of Escrow Insert 10%- “The manager to the open offer shall not release 10% the escrow account… There is no point in blocking the escrow account for thirty days after completion of payment. At best 10% can be held back to take care of any contingencies.
24. 17(10) (e)-Escrow Omit 17(10) (e) (i) & 17(10) (e) (ii) When the beneficiary of the amount were already identified where is the question of distributing it to the target co. or Investor Protection fund. It should be fully distributed to shareholders as provided in 17(10) (e) (iii)
25. 18(1)-
Other procedures Add after the proposed clause “…Listed. Such draft letter of offer shall be available for public viewing at the site of SEBI & stock exchanges” In this era of transparency & e-communication all information should be made available to public at the earliest.
26. 18(8)-
Other procedures Replace twelve business days with five business days and give an option to the shareholder deliver in advance their share in the escrow DP By allowing the option to shareholders to deliver/deposit their shares in advance, the time required to keep the issue open can be cut down without inconveniencing anyone.
27. 18(11)-
Other procedures Amend the last line to “……..pay interest to all the shareholders who tendered & whose shares have been accepted, for the delay at such rate as may be specified by
the Board.” There have been cases when interest was not paid to all the shareholders. This suggestion will remove any ambiguity.
28. 19(1) Conditional offer Please Omit this There is no requirement of such conditional offer. This may lead to lot of misuse & abuse. Small investors will loose money. This is akin to the present delisting where we see wide fluctuation in the prices and shareholders burning their fingers when such minimum levels are not reached. Latest example is Goodyear where prices crashed to 230 from 430 approx.
29. 20 (1)—
Competing Offers Insert at last “…..such target company. Or in case where the schedule of activity is delayed, within four Business days of the final schedule of activities announced after SEBI observation has been received.” It is a common knowledge that majority of the offer get delayed. If competition is not allowed to come in till such time that the actual action has started, it will be a loss of opportunity to the business as well as investors.
30. 20(9)-
Competing Offers In the first line of 2nd para insert ‘be’ “Provided that the shares that may be acquired. This seems to be a typographical error.`
31. 26(10)-obligation of target company Replace this with old 23 (6) Upon fulfillment of all obligations by the acquirers under the Regulations as certified by the merchant banker, the board of directors of the target company shall transfer the securities acquired by the acquirer, whether under the agreement or from open market purchases, in the name of the acquirer and, or allow such changes in the board of directors as would give the acquirer representation on the board or control over the company The proposed 26(10) has omitted the obligation of the target company to allow the acquirer make changes in Board of directors. It is necessary to allow such a right to an acquirer who has lawfully acquired a company.

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