Introduction
Mergers, amalgamations, and demergers are key corporate restructuring processes used by companies to achieve business growth, enhance operational efficiency, and maximize shareholder value. These processes are governed by legal frameworks that ensure compliance with regulatory norms and protect stakeholder interests.
The Companies Act, 2013, along with various SEBI regulations, Income Tax Act provisions, and Competition Act, 2002, governs these corporate restructuring activities in India. Additionally, judicial precedents have played a vital role in defining the scope and application of these provisions.
Meaning and Concept
1. Merger
A merger refers to the combination of two or more companies into a single entity, where one company absorbs another, or both combine to form a new company. The assets, liabilities, and business operations of the merging entities are consolidated, and shareholders of the transferor company receive shares in the merged entity.
Types of Mergers:
● Horizontal Merger: Between companies operating in the same industry to reduce competition (e.g., Vodafone-Idea merger).
● Vertical Merger: Between companies at different stages of production or supply chain (e.g., Reliance and Hathway).
● Conglomerate Merger: Between companies from unrelated industries (e.g., Tata acquiring Corus).
● Reverse Merger: A private company merges with a listed company to gain access to public markets.
2. Amalgamation
Amalgamation is a legal process where two or more companies combine to form a new entity, resulting in the dissolution of the merging companies. Unlike mergers, in amalgamation, a new company is created to take over the businesses of the merging entities.
Under Section 2(1B) of the Income Tax Act, 1961, amalgamation involves the transfer of assets and liabilities from one or more companies to another company in exchange for shares.
3. Demerger
A demerger is the separation of a business unit or division from a company into a new or existing entity. The aim is to improve operational efficiency, focus on core business activities, or unlock shareholder value.
Demerger can take various forms:
● Spin-off: A division is separated into a new independent company.
● Split-up: The parent company ceases to exist, and its divisions become separate entities.
● Equity Carve-out: A company sells a minority stake in its subsidiary through an IPO.
Legal Framework Governing Mergers, Amalgamations, and Demergers
1. Companies Act, 2013
The Companies Act, 2013, under Sections 230-240, serves as the primary legislation governing mergers, amalgamations, and demergers. It sets forth the legal requirements and procedural steps that companies must follow:
● Section 230: Provides the framework for compromises, arrangements, mergers, and demergers. It requires companies to seek National Company Law Tribunal (NCLT) approval before executing a scheme of arrangement. The process includes obtaining shareholder and creditor consent, public notices, and compliance with regulatory authorities.
● Section 231: Grants the NCLT the power to enforce or modify a merger scheme if it finds any irregularities or prejudicial effects on stakeholders.
● Section 232: Specifically governs mergers and amalgamations, requiring the approval of shareholders (at least 75%) and creditors before the scheme is sanctioned.
● Section 233: Introduces the concept of fast-track mergers for small companies and wholly owned subsidiaries, streamlining the process by allowing approval without requiring an NCLT order.
● Section 234: Permits cross-border mergers between Indian and foreign companies, provided they comply with Reserve Bank of India (RBI) guidelines and foreign exchange regulations.
2. SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015
For publicly listed companies, the Securities and Exchange Board of India (SEBI) mandates additional disclosure and approval requirements to safeguard investor interests. Key obligations include:
● Submission of detailed merger schemes for SEBI and stock exchange approval before implementation.
● Ensuring adequate disclosures to shareholders regarding valuation reports, share exchange ratios, and potential impacts.
● Seeking SEBI’s approval to prevent unfair trade practices or manipulation of shareholder value.
3. Competition Act, 2002
The Competition Commission of India (CCI) monitors mergers and acquisitions to prevent market monopolization and anti-competitive practices. Under Sections 5 and 6, companies must notify the CCI if their merger or acquisition exceeds specified asset or turnover thresholds.
● Section 5: Defines “combinations” (mergers, acquisitions, or amalgamations) that require prior notification if they exceed prescribed financial limits.
● Section 6: Prohibits anti-competitive combinations that significantly reduce or distort market competition.
The CCI examines mergers based on their potential impact on competition and may impose conditions or modifications to maintain market balance.
4. Income Tax Act, 1961
The Income Tax Act, 1961, provides tax benefits to facilitate mergers and demergers while ensuring that such transactions do not result in tax evasion. Section 47 of the Act grants tax exemptions for mergers and demergers, provided they meet specific conditions:
● Tax neutrality: Mergers and demergers that comply with the Income Tax Act are exempt from capital gains tax.
● Continuity of ownership: Shareholders of the transferor company must receive shares in the transferee company.
● Transfer of assets and liabilities: The entire undertaking must be transferred as a going concern.
Tax benefits encourage companies to engage in mergers and demergers as strategic restructuring tools.
5. Foreign Exchange Management Act (FEMA), 1999
The Foreign Exchange Management Act (FEMA), 1999, regulates cross-border mergers and acquisitions to ensure compliance with India’s foreign exchange laws. The RBI plays a key role in overseeing these transactions, particularly regarding the inflow and outflow of foreign investments.
Key aspects include:
● Ensuring that the valuation of foreign and Indian entities is done fairly.
● Regulating foreign direct investment (FDI) limits in mergers involving foreign entities.
● Monitoring cross-border transfer of shares and assets to maintain financial stability.
FEMA compliance is essential for Indian companies involved in international mergers, acquisitions, or joint ventures.
Procedure for Mergers and Amalgamations
The process of mergers and amalgamations is governed by Sections 230-232 of the Companies Act, 2013 and involves several regulatory approvals to ensure transparency and compliance. The key steps are as follows:
1. Board Approval
The Board of Directors of both the merging companies must approve the merger proposal through a board resolution. This step includes conducting due diligence, assessing financial feasibility, and appointing advisors for valuation and legal compliance.
2. Scheme of Arrangement
A Scheme of Arrangement is drafted, detailing:
● The terms of the merger, including the share exchange ratio and financial adjustments.
● The impact on employees, creditors, and shareholders.
● The transfer of assets and liabilities.
3. Application to NCLT
A petition is filed before the National Company Law Tribunal (NCLT), seeking approval under Section 230. The scheme is examined for fairness, ensuring no undue disadvantage to stakeholders.
4. Shareholder and Creditor Approval
As per Section 230, the scheme must be approved by:
● At least 75% of shareholders (by value) in a general meeting.
● At least 75% of creditors, including both secured and unsecured creditors.
5. Approval from Regulatory Authorities
Depending on the nature of the merger, approvals may be required from:
● SEBI – For listed companies, ensuring transparency in restructuring.
● Competition Commission of India (CCI) – To prevent anti-competitive mergers.
● Reserve Bank of India (RBI) – For mergers involving foreign entities.
● Stock exchanges – For companies listed on the stock market.
6. NCLT Approval and Filing with ROC
Once the NCLT grants approval, the scheme is filed with the Registrar of Companies (ROC), and the merger becomes legally effective. The new entity is then operational under the merged structure.
Procedure for Demergers
A demerger is a corporate restructuring process where a company transfers a segment of its business to a new or existing entity. The procedure for a demerger is governed by Section 232 of the Companies Act, 2013 and involves the following steps:
1. Board Resolution – The Board of Directors approves the demerger proposal, outlining the rationale, financial impact, and terms of the transaction.
2. NCLT Application – The company files an application with the National Company Law Tribunal (NCLT), seeking approval for the scheme of demerger.
3. Shareholder and Creditor Consent – Approval from at least 75% of shareholders and creditors is required to proceed with the demerger.
4. Regulatory Approvals – Depending on the company type, clearances from SEBI, the Competition Commission of India (CCI), and the Reserve Bank of India (RBI) may be required.
5. NCLT Order and ROC Filing – Once approved, the order is filed with the Registrar of Companies (ROC), making the demerged entity operational.
Advantages and Disadvantages of Mergers, Amalgamations, and Demergers
Mergers, amalgamations, and demergers are strategic corporate restructuring methods aimed at improving efficiency, competitiveness, and financial stability. However, they come with both benefits and challenges.
Advantages:
1. Economies of Scale – Merging companies can optimize operations, reduce costs, and improve efficiency by eliminating redundant processes, leading to higher profitability.
2. Increased Market Share – The consolidation of businesses strengthens market positioning, enhances brand value, and provides a competitive edge in the industry.
3. Tax Benefits – The Income Tax Act, 1961, provides tax exemptions under Section 47 for qualifying mergers and demergers, reducing tax burdens for companies and shareholders.
4. Risk Diversification – By spreading business operations across multiple sectors, companies can mitigate financial risks, ensuring stability in changing market conditions.
Disadvantages:
1. Cultural Integration Issues – Differences in corporate cultures, management styles, and operational frameworks can lead to conflicts, affecting employee morale and productivity.
2. Regulatory Hurdles – Approvals from the National Company Law Tribunal (NCLT), SEBI, CCI, RBI, and tax authorities can be complex and time-consuming, delaying the restructuring process.
3. Dilution of Ownership – Shareholders of merging entities may experience reduced control over corporate decision-making, particularly in cases where the new structure favors larger stakeholders.
While mergers, amalgamations, and demergers offer strategic advantages, careful planning and regulatory compliance are crucial to ensuring successful implementation.
Conclusion
Mergers, amalgamations, and demergers play a crucial role in corporate restructuring by enhancing business efficiency, competitiveness, and shareholder value. The legal framework under the Companies Act, SEBI Regulations, Competition Act, and Income Tax Act ensures transparency and compliance in such transactions. Case laws have further clarified the principles governing these processes, reinforcing the need for fair valuation, regulatory oversight, and investor protection.
As businesses continue to evolve, corporate restructuring strategies will remain essential for economic growth and sustainability in an increasingly competitive market.
Reference
Taxmann’s Company Law And Practice
