High hopes for M&A

Author: | Published: 1 May 2009
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India's integration into the global economy has accelerated inbound and outbound acquisitions, making India a hotbed for M&A activity and creating domestic valuations of astounding multiples.

The years 2006 and 2007 saw frenzied M&A activity in India, with Indian entrepreneurs no longer looking inwards alone for growth, but increasingly expanding their reach overseas. However, the global economic downturn has demonstrated that the Indian economy is not entirely decoupled from the shocks felt by the rest of the world and the numbers best tell the story of the effect that the downturn has had on the pace of M&A activity in India.

The total number of M&A deals announced in 2008 was 454 valued at $30.95 billion compared with 676 valued at $51.11 billion in 2007. The value of cross-border deals announced in 2008 was down 47% from 2007. On the bright side though, 2008 saw a spurt in domestic M&A activity – the value of domestic deals announced rose from $4.99 billion and $2.85 billion in 2006 and 2007, respectively to $5.21 billion in 2008.

Although the effect of the global economic slowdown has been felt to a certain extent in India, the numbers demonstrate the limited impact. There are many economic and cultural reasons for the continuing growth of M&A activity in India. The economic factors include India's consistently growing economy, cost efficiency of outsourcing and the availability of highly skilled human resources. The cultural factors driving M&A activity include the Indian entrepreneurial spirit, language skills, comfort with western culture and concepts, comfort of non-Indians with India's business and legal ethos, democracy and the rule of law, and Indian promoters seeking global partnerships.

Additionally, liberalised economic policies and timely regulatory review have facilitated inbound and outbound acquisitions. The regulations however continue to be extensive and vary depending upon the sector of the target company, the mode of acquisition, the instrument proposed to be used, the nature of the acquirer and the nature of the target company. The M&A laws in India are still evolving and the regulators are still catching up with the global M&A wave into and out of India.


The profile of M&A activity in India has been fluid from year to year and is largely driven by blockbuster deals. The following sectors have been consistent front runners over the last few years: telecom, pharmaceuticals, information technology (IT) and information technology enabled services (ITES), infrastructure and financial services. Telecom, pharma, healthcare and biotech saw the largest M&A activity in terms of value in 2008, accounting for 37% of the total M&A deal value.

In 2007, along with telecom, the steel sector was the clear leader as far as sectoral values were concerned. These sectors accounted for $14.9 billion and $11.3 billion worth of deals respectively. Together, they accounted for as much as 51% of the total M&A deal value during 2007. The IT and ITES sectors topped the charts for the most number of M&A deals for a second time in a row in 2008.

Regulatory framework

Acquisitions in India may be undertaken either by private arrangement through business or asset transfers and share acquisitions or by the formulation of a scheme of arrangement. This can be for the purpose of a merger, demerger, slump sale or other arrangement which would need to follow a prescribed process and be approved by the relevant court of law.

Court based restructurings, amalgamations, demergers, or other compromises or arrangements between a company and its creditors or members are primarily governed by the Companies Act, 1956. Other laws that govern M&A transactions in India are:

i) the Securities and Contracts Regulation Act, 1956, which governs the law of securities and the public markets;
ii) the Securities and Exchange Board of India Act, 1992 (the Sebi Act), which governs the functions and powers of the national securities market regulator, the Securities and Exchange Board of India (Sebi);
iii) the regulations issued under the Sebi Act, including, the Sebi (Disclosure and Investor Protection) Guidelines, 2000 (DIP Guidelines), which regulate public offerings of securities and other issuances by listed companies; the Sebi (Substantial Acquisition of Shares and Takeovers) Regulations, 1997 (Sebi Takeover Regulations), which mandate an acquirer who acquires or agrees to acquire, directly or indirectly, substantial shareholding or control in a listed company to make a mandatory tender offer to the public shareholders of that company; the Sebi (Prohibition of Insider Trading) Regulations, 1992 (Insider Trading Regulations), which prohibit dealing in securities of a listed company while in possession of unpublished price sensitive information; and the Sebi Delisting Guidelines, 2003, which set out the process for delisting of a listed Indian company;
iv) the Foreign Exchange Management Act, 1999 and the regulations issued thereunder, including in particular the regulations dealing with foreign investment into India and outbound investment from India and the Foreign Direct Investment Policy of the Government of India and the press notes issued thereunder;
v) the Monopolies and Restrictive Trade Practices Act, 1969, which is an anti-trust legislation seeking to control monopolistic and dominant undertakings and its proposed successor, the Competition Act, 2002, which also seeks to regulate anti-competitive behaviour; and
vi) the Income Tax Act, 1961, which prescribes the tax treatment of dividend, capital gains, mergers, demergers and slump sales.

While there is no specific legislation governing a shareholders agreement or an agreement for the sale and purchase of companies, the guiding legislation in this respect is general contract law read together with precedents set by the courts, which have helped define the structure of these agreements over time.

Further, there is a host of other legislation, including sector specific legislation in, inter alia, the telecommunications sector, the banking sector and the insurance sector, that would also be relevant depending on the nature and type of business that is to be acquired and the manner of acquisition.

Recent developments

The global economic downturn and the resultant fall in foreign investment into India have led to the enactment of many significant amendments and changes in the policy of the Government.

In a bid to boost liquidity infusion, Sebi has relaxed the registration requirements for Foreign Institutional Investors (FII) and has removed the restrictions it had imposed on the issuance of participatory notes.

Further, Sebi has amended the pricing guidelines set out in the DIP Guidelines for preferential allotments to Qualified Institutional Buyers. Previously, the average of the weekly high and low of the closing prices of the preceding six months needed to be considered to arrive at the price for a preferential allotment. After the amendment, the average of the weekly high and low of closing prices during the two weeks preceding the relevant date needs to be considered. The definition of relevant date has been changed to mean the date of the board meeting authorising the opening of the issue and not the date 30 days prior to the shareholders' meeting that approved the issue, as was previously defined. This move is aimed at bringing about congruence between the issue price and the market price, which is considerably lower due to the global financial crisis.

In an attempt to revive the stock markets, Sebi has amended the Sebi Takeover Regulations to permit acquirers holding between 55% and 75% (or 90%, depending on the delisting threshold specified under the Listing Agreement) of the equity shares or voting rights of a target company to further consolidate their holdings. This can be done either through acquisitions up to 5% by open market purchases in the normal segment of the stock exchanges, or through buy-backs.

As an offshoot of the Satyam scam, Sebi has further amended the Sebi Takeover Regulations to provide for disclosures of pledged shares by promoters and persons belonging to the promoter group in order to bring about greater transparency in the shareholding patterns of listed companies. Sebi has also provided for relaxation from the strict compliance with pricing and procedural requirements of the open offer process in certain cases. This includes removal and replacement of the board of directors of the target company by the Government, any State Government or any other regulatory authority, public interest considerations and the interest of investors and the securities market.

More recently, in order to streamline the rules governing sectoral caps for foreign investment into India, the Government notified the manner in which total foreign investment (both direct and indirect) in an Indian company is to be calculated. As per the new rules, all foreign investments, investment by FIIs, foreign direct investment (FDI) and investments made by non-resident Indians (NRI) are treated at par for calculating non-resident shareholding.

The entire downstream investment by an Indian company which is not "owned and controlled" by resident Indian citizens or Indian companies "owned and controlled" by resident Indian citizens is considered as part of the indirect foreign investment in the downstream company. However, if the downstream company is a 100% subsidiary of the investing company, the indirect foreign investment in the downstream company would be taken to be only to the extent of foreign investment in the investing company. The new rules define "ownership" as the beneficial ownership of more than 50% of the equity interest in a company and "control" as the power to appoint a majority of the directors of a company.

Significantly, the government recently cleared the air on the "operating-cum-holding" company issue whereby the prior approval of the Foreign Investment Promotion Board (FIPB) was required for either foreign investment in any company with downstream investments or downstream investments by any company which has foreign investments. In terms of the new rules, foreign investment into operating companies and operating-cum-holding companies would require no prior FIPB approval, subject to compliance with conditions applicable to the relevant sector. The same would apply to downstream investments made by operating-cum-holding companies as well. The prior approval of the FIPB would only be required for foreign investment in holding companies, regardless of the amount or extent of foreign investment. Downstream investments by such a company would require compliance with conditions applicable to the relevant sector.

Another significant development in the past year came about in the form of a judicial decision given in the case of Vodafone International Holdings BV v Union of India, wherein the Bombay High Court held that transfer of shares of a foreign company between two non-residents resulted in the transfer of a capital asset in India and was therefore liable to tax in India. The case is being heard in the Supreme Court of India and if the decision of the Bombay High Court is upheld, a number of deals, hitherto not taxed, would be susceptible to tax in India.

Also noteworthy were the amendments made to the Insider Trading Regulations. These significantly broadened the ambit of insider; imposed prohibitions on short swing sale or purchases by creating a six month trading bar on securities purchased or sold by directors, officers, designated employees; introduced the concept of disclosure of the holdings of "dependants"; and imposed a complete prohibition on directors and other key personnel from trading in derivatives on the shares of the company.

Finally, 2008 saw the introduction of a new Companies Bill in the Parliament. A few positive changes to the mergers and amalgamations section include a squeeze-out provision and the possibility of an Indian company merging into a foreign transferee company.

While M&A activity has burgeoned in India in the last few years owing largely to the integration of the Indian economy with the global economy and the progressive development of its regulatory framework, the global economic downturn has affected the Indian market, albeit to a limited extent. That said, the M&A outlook in India continues to be promising by virtue of its potential for consistent economic growth fueled by large domestic consumption; culturally attractive business ethos and opportunities; and constant and vigilant changes to the regulatory framework to meet the needs of an economy in flux.

All figures cited in this article have been taken from Grant Thornton Dealtracker published in 2007 and 2008.

Author biographies

Cyril Shroff

Amarchand & Mangaldas & Suresh A. Shroff & Co.

Cyril Shroff is a managing partner at Amarchand Mangaldas with 25 years of experience in a wide range of practice areas, including corporate, banking, infrastructure amongst others. Cyril has been consistently rated as India's top corporate, banking and project finance lawyer by several international surveys including those conducted by International Financial Law Review (IFLR), Euromoney, Chambers Global, Asia Legal 500, Asialaw and others.

A leading practitioner in the field of securities law, Cyril has been associated with a significant number of high-profile and complex mergers and acquisitions and securities market transactions by Indian issuers. He has been a member of several government and other regulatory committees on law reform concerning corporate and securities market, bankruptcy laws, commercialisation of infrastructure.

Cyril has authored several publications on legal topics. He is a part time lecturer of securities law at the Government Law College. He is a member of the Centre for Study of the Legal Profession established by the Harvard Law School and a member of the Advisory Board of National Institute of Securities Markets. He has also participated in several Technical Assistance (TA) projects of the Asian Development Bank in relation to the reform of laws relating to secured lending, bankruptcy and other related topics.

He has been a solicitor, High Court of Bombay, since 1983.