Competition Law: Issues in Mergers and Acquisitions

The Author, Nidhi Kale is a First Year student of BBA LLB, School of Law, NMIMS, Bangalore. She is currently interning with LatestLaws.com. 

Introduction

The corporate sector in the globalised world, with specific focus to the corporate sector in India has, over the years put numerous efforts into structuring its corporate and business  operations, through various consolidation methods such as Mergers and Acquisitions. The major reason behind structuring these operations, were because of the challenges posed by the new era of globalization, which has amalgamated the international to the domestic markets, giving a true essence of highly competitive world trade. Because of the rising competitiveness in the global market, Indian companies have turned to mergers and acquisitions as a key strategic option. Since 2000, merger and acquisition (M&A) activity has exploded. M&As have historically followed a cyclical trend. For the past 100 years, there have been six waves of mergers and acquisitions: the early 1900s, 1920s, 1960s, 1980s, 1990s, and 2000s. The mergers and acquisitions patterns in India have shifted over time. The immediate consequences of mergers and acquisitions have been varied across the different sectors in the Indian economy. During the first two years, India's merger and acquisition deals totaled to $40 billion. 2007 was subdivided into smaller months. India's overall estimated mergers and acquisitions value in 2007 was in excess of $100 billion. In 2006, there were twice as many mergers and acquisitions.

Competition Law

Competition Law across the globe, are laws or legislations that are formulated in order to prevent Unfair trade practices, market distortion and anti- competitive practices etc. practiced or adopted by businesses across the world. The aim and the objective of these competition laws is to provide a fair marketplace to consumers and producers by forbidding them from committing unethical acts aimed at gaining a larger proportion of the market than would be possible through fair competition. Anti-competitive behaviours result in higher consumer pricing, inferior service, and less innovation, as well as making it difficult for smaller businesses to enter or flourish in the global as well as domestic market.

Predatory pricing; which involves a monopoly or oligopoly charging an exorbitant price for something that the consumer has little choice but to buy, price fixing; which involves collusion between would-be competitors to set similar prices for products and bid rigging; which involves colluding to select the winner of a contract, are just a few examples of anti-competitive practices. Despite the fact that particular laws differs by jurisdiction, competition law typically prohibits these behaviors.

Competition laws are developed to control the way businesses function in India in order to establish or make possible a level playing field with effective competition in the market. The fundamental goal of this statute is for businesses to compete on merit, not through anti-competitive agreements and/or conduct. However the intent of these comparatively recent statutes such as the Competition Act, 2002 in the Indian legal system is not to make it easier for relatively weak businesses to survive in the market or to force more profitable businesses to give up market share.

Mergers and Acquisitions 

Mergers- Merger refers to the combination of two or more business entities into a single business entity, with one company continuing to operate while the other ceases to do so. The assets, liabilities, and stocks of the defunct company or firms are acquired by the existing corporation. The buyer is usually an existing firm, whereas the seller is usually a quenched firm. Mergers are typically done to increase a company's market share, lower operating costs, expand into new locations, connect commonplace items, increase revenues, and increase benefits—all of which can result in money for the company's shareholders

Mergers are also known to be called Amalgamations or the fusion of two or more companies. All the Liabilities, Assets, Stocks/Securities, as well as the financial statements of the company stand transferred or handed over to the transferee firm in exchange for payment in the form of:

1. Debentures in the transferee company 

2. Cash

3. Equity shares in the transferee company

4. Or a mix of two or more above mentioned methods.

Following a merger, shares of the new company are distributed to current or existing shareholders of both the companies, one of which previously existed. Merger is not the same as consolidation eliminates the merging firms and gives the existing firm all of the combined firm's privileges, rights, and responsibilities. It is a mechanism by which firms formally merge the ownership of assets that were previously managed by various groups.

An acquisition usually refers to a larger commercial entity acquiring a smaller company. The acquisition of all or a portion of a company's assets for its desired business is known as acquisition. A merger is similar to an acquisition, but it refers to the merging of the interests of two companies into one stronger entity. As a result, the industry will grow at a faster and more profitable rate than a typical organic expansion would allow. An acquisition is the action of acquiring one firm by another without the creation of a new company.

General Motives behind Mergers and Acquisitions of Companies 

(i) Increased revenue/Market Share: This motive predicts that the corporation would absorb a big competitor and, as a result, raise its pricing.

(ii) Economies of Scale: This is a term that refers to a method of lowering the average cost per unit by increasing production.

(iii) Cross-selling: If a bank buys a stock broker, the bank can market its banking products to the stock broker's customers, and the broker can sign up the bank's clients for a brokerage account.

(iv) Taxes: A profitable firm can purchase a loss maker in order to take advantage of the target's tax benefits, such as when an ailing company is purchased by giants.

(v) Corporate Synergy: More effective utilization of complementary resources. It could be in the form of increased revenue or expense savings.

(vi) Geographical or other diversification: This is aimed to smooth a business's earnings outcomes, which in turn smoothes the stock price over time, providing conservative investors more confidence in the company. However, this does not necessarily result in shareholder value.

It perhaps becomes imperative, to understand the difference between a Merger and an Acquisition, the former means “to combine” while the latter means “to acquire.” Merger implies the amalgamation of of two or more companies, to outline or form a new or fresh company, may be by the process of incorporation or whatsoever. Acquisition implies the takeover of a company, in this process one company takes control of the other company. Both are the results of corporate restructuring, one company having influence on the other company and the decisions are primarily taken during deterioration in the financial system or through failing profit margins.

Legislations regulating Mergers and Acquisitions

Following are the laws regulating the establishment and functioning of Mergers and Acquisitions in India:-

1. Competition Act, 2002 

The following provisions of the Competition Act of 2002 apply to corporate mergers: - (1) Section 5 of the Competition Act of 2002 deals with "combinations," which are defined in terms of assets and turnover 

(a) exclusively in India in addition

(b) both within and outside of India

(2) According to Section 6 of the Competition Act of 2002, no person or company shall enter into a combination that produces or is likely to produce an appreciable adverse effect on the market competition within the relevant markets in India, and that such a combination stands to be void.

For instance, without previous notification and clearance from the Competition Commission, an Indian firm with a yearly turnover. 3000 crores cannot purchase another Indian company. A foreign firm with a turnover of more than USD 1.5 billion (or more than Rs. 4500 crores) outside of India, on the other hand, may acquire a company in India with sales of less than Rs. 1500 crores without notifying (or getting clearance from) the Competition Commission.

2. The Companies Act, 1956

Sections 390 to 395 of the Companies Act of 1956 deal with arrangements, amalgamations, and mergers, as well as the procedures to be followed in order to get the agreement, compromise, or amalgamation scheme accepted. Though section 391(Power to compromise or make arrangements with creditors and members) pacts with a compromise or arrangement that is distinct from the subject of amalgamation that is dealt with under section 394(Provisions for facilitating reconstruction and amalgamation of companies), because section 394 also refers to the process under section 391 and so on, all of the sections should be read together and in order to fully comprehend the protocol for getting the scheme of amalgamation approved. While the procedure is to be followed in the case of a merger of two corporations, it is more extensive than the scheme of compromise or arrangement, and thus there is significant overlap.

3. The Companies Act, 2013 

These particular sections talk about the establishment and functioning of Mergers and Acquisitions:-

Section 230: Power to compromise or make arrangement with creditors and members

Section 231: Power of tribunal to enforce compromise and arrangement. 

Section 232: Merger and amalgamation of companies. 

Section 233: Merger and amalgamation of certain companies. 

Section 234: Merger or amalgamation of companies with foreign companies.

4. SEBI Takeover Code, 1994

The SEBI Takeover Regulations allow for consolidation of shares or voting rights over 15% up to 55%, as long as the acquirer does not acquire more than 5% of the target company's shares or voting rights in any fiscal year. [SEBI Takeover Regulations, Regulation 11(1)] Acquisition of more than 26 percent of a company's stock or voting rights, on the other hand, would appear or appears to trigger the Act's notice procedure. It should be noted that consolidation of shares or voting rights permissible under the SEBI Takeover Regulations will not necessitate reporting to the Competition Commission of India. 

5. Foreign Exchange Management Act, 1999

The Foreign Exchange Management (Transfer or Issue of Security by a Person Residing Outside of India) Regulation, 2000, published by RBI, dated 3rd May, 2000, contains the foreign exchange legislation relating to the issuance and allotment of shares to foreign organizations. These regulations set out general standards for an Indian entity issuing shares or securities to a person resident outside India, as well as recording any security transfer from or to such person in its books. The Reserve Bank of India (RBI) has published extensive instructions on foreign investment in India, which can be found in Schedule 1 of the stated rule.

6. The Indian Income Tax Act, 1961 

The Foreign Exchange Management (Transfer or Issue of Security by a Person Residing Outside of India) Regulation, 2000, published by RBI, dated 3rd May, 2000, contains the foreign exchange legislation relating to the issuance and allotment of shares to foreign organizations. These regulations set out general standards for an Indian entity issuing shares or securities to a person resident outside India, as well as recording any security transfer from or to such person in its books. The Reserve Bank of India (RBI) has published extensive instructions on foreign investment in India, which can be found in Schedule 1 of the stated rule.

7. Mandatory permission by the Courts 

Any merger strategy must be approved by the courts in the country. According to the companies act, the high courts of the states where the transferor and transferee firms have their respective registered offices have the authority to order the winding up or control the merging of businesses incorporated in or outside India.

After having sanctioned the scheme of mergers under section 392 of the Company Act, the high courts might also supervise any arrangements or adjustments to the arrangements mentioned or given so forth. 

The Procedure in place for Mergers and Acquisitions of Companies

1. Due Examination of the MOA’s of the two or more companies merging or one acquiring the other. 

The Memorandum of Association of two or all the companies, involved in the contract should be examined, in order to evaluate the powers of these companies and whether the option of amalgamating these firms together is feasible or not. 

Two Sources allow the merging company to carry on the business of the merged company or the acquiring firm to take over the business of the acquired company. One is the Object Clause that is a legal document and henceforth allows it, but if such clauses do not exist it becomes mandatory to get the necessary approvals of the shareholders, the company law board, and the board of directors. 

2. Bringing to the knowledge of the Stock Exchanges

The companies who are merging or one taking over the other, were definitely listed in a stock exchange prior to the merger proposal, they are therefore mandatorily required to inform the stock exchanges they were registered in, about the merger or acquisition proposal. It is also important that from time to time the companies notify through emails and required channels of communication, the necessary copies of all proposals such as notices, resolutions and court and other orders. 

3. Approval of the respective Boards to the draft proposal of Mergers/Acquisitions

The separate BODs must approve the proposed merger proposal. Each company's board of directors/executives should adopt a resolution empowering its directors/executives to pursue the matter further.

4. Application to the High Court

Once the merger proposal papers have been authorised by the separate boards, each firm should file an application with the high court of the state in which its registered office is located to hold meetings of share holders and creditors to vote on the merger proposal.  

5. Dispatch of notice to shareholders and creditors

In order to summon shareholder and creditor meetings, each firm should send a notice and a descriptive resolution of the session to its shareholders and creditors, as allowed by the high court, so that they have 21 days prior notice. The session’s notices should be reported in the respective columns of two newspapers as well.

6. Organizing shareholder and creditor meetings

Each firm should meet and discuss with its stockholders as well as all the potential stakeholders to approve the merger arrangement. The merger plan must be approved by minimum 75% of shareholders voting in person or by proxy. The same also stands true for the creditors of both the businesses. 

7. Petition to High Court for confirmation and passing of HC orders

Once the mergers and the aquisitions plan or proposal is passed by the share holders and creditors, the two or more enterprises present in the merger or the acquisition should present a petition to the High Court for confirming the scheme of merger. A notice about the same has to be published in 2 newspapers.

8. Lodging the ruling with the registrar of Companies 

Within the time limit set by the court, certified true copies of the high court order must be filed with the registrar of companies.

9. Handover of assets and liabilities

 After both the High Courts have approved the appropriate verdict, all of the merged firm's assets and liabilities must be handed to the merging business.

10. Issuance of shares and debentures 

After complying with all legal requirements, the merging business shall issue shares and debentures. The stock market will then list the new shares and debentures that have been issued.

            Issues in Mergers and Acquisitions

1. Contractual Issues in Mergers and Acquisitions- While both M&As have economic and business motivations, the contractual and legal requirements involved are somewhat varied and more often than not involve contractual complications. Substantial agreements and clauses to effectively establish or execute M&As include: asset and business transfer agreements, indemnity, share sale and purchase/acquisition agreements, representations and warranties, governing law and post-closing matters, non-compete and non-solicitation agreements, confidentiality and indemnity agreements. 

Contents of Share Purchase Agreements:

1. Control and Management - For successful functioning, expansion, and success of the target organization, the development of an adequate governance structure is critical. The acquirer's participation, as well as the rights, obligations, and duties of the target company's management, including the board of directors, nominated directors, and chairman, should be specifically stated in the share purchase agreement. These compliances make the procedure lengthy and therefore tiresome and expensive for some companies willing to get into M&A’s. 
2. Intellectual Property Rights - If the merger involves the transfer, assignment, or right to use an intellectual property such as a trademark, copyright, know-how, or other intellectual property, the share purchase agreement should preserve the intellectual property rights. However there is no such regulatory mandatory compliance in place to preserve these intellectual property rights in the Indian context, as of now. 
3. Condition precedent - A share purchase agreement may include condition precedents such as getting essential clearances from multiple governmental regulatory organizations in order to efficiently execute the share purchase agreement and ensure the target company's smooth functioning. Again getting these clearances from several governmental organizations make it fairly time consuming since these offices take a lot of time to approve or provide clearances.  
4. Non-Competition/Conflict of Interest - A non-compete clause is included in a share purchase agreement to prevent the contractual party from engaging in any separate business that competes with the target company. Such type of agreements typically donot provide or make public the utmost clarification or specification in these share purchase agreements, therefore leaving huge doubt on the possibility of the formation of Anti- competitive Agreements on part of one company thereby taking unfair advantage of the other company, who enters into these aforementioned agreements.
5. Mechanism for Deadlock – Both the parties’ votes, opinions and prospective plans might be similar or divergent. As a result, there must be a process in place to resolve any situations if the parties are at loggerheads with each other. To avoid a situation like this, the chairman may be given a casting vote. But the casting vote of the chairman is supposed to be highly unfair in most cases. 
6. Confidential Data - All terms contained in, relating to, or emanating from the share purchase agreement might be made confidential. 
7. Survival Provision or Clause - It may be appropriate to provide for the continuation of certain responsibilities contained in, related to, or resulting from the share purchase agreement even if the share purchase agreement is terminated. 

2. Exchange Control Issues- The Foreign Direct Investment (FDI) regime in India has gradually liberalized, and the Indian government recognizes the importance of FDI in a country's economic development. Foreign companies can now invest directly in India, either as wholly owned subsidiaries or as joint ventures, with very few limitations. Any planned investment by a foreign entity/individual in an existing entity in an international joint venture can be made either through equity growth or via the purchase of existing equity.

The value of shares will not be less than the ruling market price in the case of shares listed on a stock exchange or the value of the shares calculated according to the guidelines issued by the former Controller of Capital Issues and certified by a Chartered Accountant where the transfer of shares is made under a private arrangement by a person resident in India to a person resident outside India. In any situation, the sale proceeds must be sent to India via traditional banking methods.

3. FDI Policy Compliance- Finally, a declaration should be filed with an authorized dealer, along with a consent form suggesting the relevant information of the transfer, the investee company's shareholding pattern after the acquisition of shares by a person resident outside India exhibiting ownership interest of residents and non-residents, and a certificate indicating the fair value of shares from a chartered Accountant. In case of a public listed company copy of the broker’s note and an undertaking form from the buyer to the effect that he is eligible to acquire shares in accordance with the FDI policy should be maintained. 
4. Tax Implications of/ issues in Mergers and Acquisitions-               
   Amalgamations and demergers are subject to the following taxes:                                
   1. Capital Gains Tax - Gains deriving from the transfer of capital assets, such as shares, are taxed under the IT Act. The resultant company in the scheme of amalgamation or demerger, however, is free from paying capital gains tax on the Transfer of Capital Assets if it is an Indian company.

2. Transfer of Shares Tax - Securities Transaction Tax and Stamp Duty may apply to share transfers. When the shares are dematerialized, however, there is no Stamp Duty to pay.

3. Tax on the transfer of assets/businesses - The transfer of property is also subject to a state-imposed tax.

 Transfer of Immovable Property - The instrument of transfer is subject to Stamp Duty and Registration fees.

Transfer of Movable Property - The transfer of movable property is subject to state-determined VAT as well as Stamp Duty on the transfer instrument.

4. Transfer of Tax Liabilities – 

Income Tax - The predecessor is responsible for all income tax due until the reorganization takes effect. The successor assumes responsibility after the reorganization date.

Central Tax- When a registered person transfers his business to another person, the successor must get a new registration and the predecessor must file for deregistration under the Central Excise Act. If the predecessor had CENVAT Credit, it might be transferred as well.

Service Tax - If the successor stops to supply taxable services, the transferor must seek a new registration and the successor must relinquish the transferor's registration certificate.

Value Added Tax (VAT) - Typically, legislation governing the imposition of VAT require notification of changes in ownership and name to the appropriate authority, but these regulations do not offer any precise instructions for the transfer of tax credits. The predecessor's and successor's obligations are joint and many.

Despite the Issues existing in the contractual agreements and the lengthy procedure involved in the establishment of Mergers and Acquisitions-

The top 10 Acquisitions made by Indian Companies Worldwide:
 

Conclusion

While there is an increasing need for reform in the current law, modifications to the Companies Act of 1956 should be implemented in a coordinated manner. The reform is necessary in order to provide maximum flexibility and equal opportunity to all economic players in the global market. This would also assist in aligning Indian law with other nations' merger laws. Mergers, acquisitions, and alliance talks are increasing in India as FDI rules become more liberalized. They are no longer restricted to a single sort of organisation. The list of completed and planned mergers includes businesses of all sizes and types — mergers are on the rise across the board, creating platforms for tiny businesses to be bought by larger businesses. Organizations merge to form a single company to realise economies of scale, broaden their reach, acquire strategic talents, and gain a competitive edge. In layman's terms, mergers are viewed as a crucial instrument used by businesses to grow their operations and increase earnings, which varies depending on the types of businesses amalgamated. Due to business consolidation by large industrial houses, business consolidation by multinationals operating in India, increased competitiveness against imports, and acquisition activities, Indian markets have seen a developing trend in mergers. As a result, this is an excellent time for business houses and corporations to keep an eye on the Indian market and seize the opportunity.

M&As have been determined to be positive in the sense that Indian enterprises have grown in size and gained a greater part of the market, as evidenced by empirical data. After the business went through an M&A, turnover grew throughout the research period. Furthermore, M&As had no effect on return on net value across the study period. The nature and pattern of Indian corporations' M&A strategies indicate mostly horizontal and vertical types.

This supports the premise that Indian companies are concentrating on their core competencies and expanding primarily in adjacent areas of competence, resulting in synergistic benefits. Furthermore, M&As in India are strategic in nature, with objectives ranging from growth and expansion to high human resource quality, strong brand presence, and global identity and leadership. To stay ahead of the competition, executives must have a global perspective, be proactive, be able to take measured risks, and smoothly launch and manage acquisition and consolidation processes.