Sebi repairs damaged takeover code

WITHOUT CONTEMPT

The Sebi (Substantial Acquisition of Shares and Takeovers) Regulations, 1997, ("Takeover Regulations") have been amended yet again. But thankfully, this time, the amendments are aimed at undoing the hardships caused by the misconceived and ill-timed amendments that took effect in December 2004.

The 2004 amendments effectively put paid to any preferential allotment or market purchase that would take collective holding to more than 55 per cent.

They also forced any open offer that could take public shareholding to below the minimum specified in the listing agreement to be made only under the delisting guidelines and not the takeover regulations.

These amendments severely curtailed M&A activity in the market and penalised persons holding more than 55 per cent in listed companies by preventing them from making a clean and complete exit.

With the listing agreement prescribing different levels of public shareholding for different companies, and the takeover regulations expressly prohibiting acquisition of more than 55 per cent through preferential allotment or market purchases, lack of clarity in the law led to a number of transactions having to be torturously structured.

The amendments made last week undo the retrograde 2004 amendments. The provisions that prohibit preferential allotments or market purchases of more than 55 per cent stand deleted. Simply put, the 2004 amendments have been undone. Now, acquisitions of up to such level as would not result in public shareholding falling to below the minimum specified in the listing agreement, without differentiating among the types of acquisitions, have been permitted.

The protectionist lobby that craves for higher limits of creeping acquisitions has been ignored. Creeping acquisitions continue to be permitted at up to 5 per cent in a financial year but this stops when the cumulative holding of the creeping acquirer reaches 55 per cent. Any acquisition above this level would need an open offer under the takeover regulations.

The clean-up in the law governing public shareholding, seen in the form of the newly revised Clause 40A of the listing agreement, has helped Sebi in bringing this much-needed amendment in the takeover regulations. However, the draftsmen could have done with a simple cross-referencing of Clause 40A when it came to dealing with levels of public shareholding. Instead, while dealing with exceptions to the 25 per cent public shareholding rule, the amendments to the takeover regulations have picked up a specific reference to only initial public offerings where the float is only 10 per cent in terms of Rule 19(2)(b) of the Securities Contracts (Regulation) Rules, 1957 (SCRR) and to "any relaxation granted from the strict enforcement of the said rule."

The listing agreement, after the insertion of the new Clause 40A, expressly permits public shareholding at 10 per cent for companies that have an average market capitalisation of Rs. 1,000 crore in the previous financial year and an outstanding equity share capital of two crore shares. There is no reason for acquirers in such companies to not be able to acquire up to 90 per cent in terms of the takeover regulations. Sebi could have perhaps been worried about a situation where a company could keep moving from a 25 per cent public-shareholding dispensation to a 10 per cent one, depending on how the market price of the shares moves. To deal with this concern, the takeover regulations could have provided that if any company met these criteria for three successive financial years, acquisitions of up to 90 per cent would be permissible.

Most importantly, it is now recognised that public shareholding could indeed fall to below the minimum specified in the listing agreement, but it has been made mandatory for the acquirer to ensure that the public shareholding is restored within the framework specified in the listing agreement. This is well-drafted since the new Clause 40A confers powers on the stock exchange to deal with such situations, and the failure to restore public shareholding to the minimum can always be acted against with the use of the wide-ranging powers of Sebi under regulations 44 and 45 of the takeover regulations, which include the power to force divestment and freezing of voting rights.

Another set of amendments in the takeover regulations has changed the definition of the term "promoter". Earlier, the level of beneficial ownership for deeming another entity as forming part of the promoter group was pegged at 26 per cent. This has been brought down to 10 per cent, on a par with the definitions in the Sebi (Disclosure and Investor Protection) Guidelines, 2000.

One interesting feature is that the amendments this year explicitly took effect on May 26, 2005, and became known almost the same week. The 2004 amendments sprung a surprise on the entire securities market including the regulator, in that they took effect from December 20, 2004, but until late January 2005, even Sebi was not aware that the official gazette had published them. Even today, open offers by victims of this nasty surprise remain unresolved.

Sebi will do well to prescribe a prospective effective date in any amendments it makes to its regulations, providing for adequate time for the printing queue in the official gazette to run its course, and let market intermediaries know well in advance when the law governing them will change.

(The author is a partner of JSA, Advocates & Solicitors. The views expressed herein are his own.)