Under Indian law, minority shareholders in a company are in a position to challenge the larger shareholders and put forward their agenda for the direction taken by the company on various matters and, accordingly, a trend has emerged whereby the majority shareholders prefer to consolidate their holdings to achieve better control and reap greater economic benefits from the growth of the company.
Illustration: Jayachandran / Mint
In fact, the Companies Act, 1956, provides for protection of minority shareholders against certain actions taken by the majority shareholders, such as unfair dilution of shares, related party transactions, etc. Apart from deadlock or risks of litigation created by the minority block, the majority shareholders may also want to get rid of the minority shareholders in order to obtain increased administrative flexibility. A majority shareholder would want unfettered rights to conduct the business of the company in the manner it deems fit, and the concept of minority “squeeze-outs”, well-recognized in many jurisdictions internationally, becomes relevant. A “squeeze-out” refers to a mechanism that effectively entitles the controlling block to acquire the shares held by the minority shareholders in a company
Under Indian law, the Securities and Exchange Board of India’s (Sebi) delisting guidelines provide for provisions relating to delisting, which entitle promoters to voluntarily delist a company from the stock exchanges by offering to purchase the shares of public shareholders. This seems to be on similar lines as minority squeeze-out provisions because, upon the company being delisted, the shareholders would lose the liquidity attached to their shares and their exit options would be reduced substantially, making it likely that they would accept the offer of the promoters to purchase their shares. Nevertheless, considering that the shareholders have the right to reject the offer to sell their shares and can continue as shareholders of the company, strictly speaking, these provisions do not have the same effect as minority squeeze-out provisions.
In this regard, section 395 of the Companies Act, which provides for compulsory acquisition of shares by the majority shareholders (in certain circumstances), becomes relevant. Under this provision, an acquiring company may make an offer to the shareholders of a target company of a scheme or a contract involving the transfer of shares of the target company. In the event that holders of nine-tenths of the value of the shares of the target accept the offer of the acquirer company (“approving shareholders”) within a prescribed period, the acquirer company shall have the right to give a notice to the dissenting shareholders (who have not accepted the offer) to acquire their shares also (within a given period). The dissenting shareholders shall have the right to file their objection to the same with the Company Law Board. Unless the Company Law Board orders otherwise, the acquirer shall be entitled to acquire the shares of the target company on the terms on which the shares of the approving shareholders are to be acquired by the acquirer company.
It is important to note that section 395 of the Companies Act also specifies that in case the acquirer company or its subsidiary hold more than one-tenth of the value of the shares of the target, then the offer would only be valid if such an offer is approved by the holders of nine-tenths of the shares of the target company (excluding the shares held by the acquirer company or its subsidiary). Additionally, such approving shareholders should constitute not less than three-fourths in number of the holders of those shares.
Further, section 395 is the only provision in the Companies Act that deals with the compulsory acquisition of shares of minority shareholders and there are no corresponding rules or guidelines available in relation to this. In the absence of such guidance notes, wide powers of discretion have been conferred on the Company Law Board to allow or reject an offer to squeeze out a minority group under section 395.
The judicial trend so far (considering that there are not many cases under this provision) suggests that the Company Law Board would allow the scheme or contract if the fairness standard is met and the onus to prove otherwise shall be on the dissenting shareholders.
It is important to note that section 395 does not contain any guiding principles relating to the valuation of shares for the purposes of the takeover offer. Further, the increased majority of nine-tenths of the independent shareholders is only required where the acquirer company or its subsidiary holds shares in the company. The requirement is not extended to cases where related parties to the acquirer hold shares in the target company. This gap has been filled in by the judiciary in some cases like AIG (Mauritius) v Tata Televentures Holdings Ltd, where the Delhi high court rejected the offer of the acquirer company on the basis that on lifting the corporate veil, the acquirer company was really the same as the approving shareholders of the target company. However, some legislative guidance (further to the case law) would make the legal position clearer.
To conclude, it can be said that the legislature needs to revisit the provision. Keeping in mind that any takeover offer under section 395 requires the approval of nine-tenths of the minority shareholders, presently section 395 only enables a squeeze-out of the dissenting minority shareholders and not all minority shareholders. It does not provide for a situation where the minority block is against the takeover offer, irrespective of the level of their holding in the company or the fairness of the offer.
Therefore, proper minority squeeze-out provisions need to be introduced, providing for a fair exit to minority shareholders and also entitling the controlling block to compulsorily acquire shares held by a minority block.
Send your comments to firstname.lastname@example.org. This column is contributed by Sachin Mehta of AZB & Partners, Advocates & Solicitors.