Tuesday, March 15, 2016

Individual Triggers for Takeover Offers

[The following guest post is contributed by Jyoti Srivastava, who is a Manager at Vinod Kothari & Co.]

The Securities and Exchange Board of India (SEBI) has framed regulations providing for the acquisition of shares and takeover of listed companies known as ‘Takeover Code’ or SEBI (Substantial Acquisition of Shares) Regulations, 2011 (‘SAST Regulations, 2011’). The provisions of the SAST Regulations, 2011 are triggered when there is an acquisition of shares or voting power or control in a listed company, in excess of the prescribed limits either directly or indirectly with a view to gain control over the management of such a company.

The post is an attempt to provide some practical insights into the thresholds provided under Regulation 3 and the combinations thereof for provisions of SAST Regulations, 2011 to become operative or not become operative.

Initial threshold limit for triggering of an open offer

Regulation 3 of SAST Regulation, 2011 entails an acquirer to make an open offer to the shareholders of the target company to provide an exit option to such shareholders. The regulation refers to some threshold limits, which once breached, will give rise to an obligation on the acquirer to make an open offer to the shareholders of the target company.

The following are the threshold limits under sub-regulation 1, 2 and 3 of Regulation 3 of SAST Regulations, 2011for acquisition of shares/voting rights, beyond which an obligation to make an open offer is triggered:

- Triggered limit for Regulation 3(1): Pre-acquisition holding of acquirer is less than 25% and post-acquisition the holding becomes 25% or more.

- Triggered limit for Regulation 3(2): Pre-acquisition holding of acquirer is 25% or more but does not exceed 75% and post-acquisition during a financial year the holding is increased by 5% or more.

- Triggered limit for Regulation 3(3): Pre-acquisition individual holding of a person is 25% or more and post-acquisition such individual holding is increased by 5% or more.

Hence, from the aforesaid triggers, it is quite clear that the obligation to make an open offer under sub-regulation 1 will be attracted in such circumstance when an acquirer together with person acting in concert (PACs) acquires shares and voting rights and thereby for the first time crosses the threshold limit of 25% or more of the shares or voting rights in the target company.

Further, the requirement of open offer under sub-regulation 2 follows when an acquirer (which includes PACs as well), who is already holding 25% or more, but less than 75% shares or voting rights in the target company and further acquires 5 % or more of shares or voting rights within any financial year. The acquisition under sub-regulation 2 is also known as ‘creeping acquisition'. For computing acquisitions limits for creeping acquisition specified under Regulation 3(2), gross acquisitions/ purchases shall be taken into account and any fall in shareholding or voting rights whether owing to disposal of shares or dilution of voting rights on account of fresh issue of shares by the target company shall be ignored.

Regulation 3 (3) of the SAST Regulations, 2011 stipulates that:

For the purposes of sub-regulation (1) and sub-regulation (2), acquisition of shares by any person, such that the individual shareholding of such person acquiring shares exceeds the stipulated thresholds, shall also be attracting the obligation to make an open offer for acquiring shares of the target company irrespective of whether there is a change in the aggregate shareholding with persons acting in concert.

Regulation 3(3) of SAST Regulations, 2011 expands the scope of Regulation 3(1) and Regulation 3(2) to take within its ambit the situation where the stand-alone increase in the holding of a “person” is above the thresholds provided for in Regulation 3(1) and Regulation 3(2) whereas the aggregate holding of the acquirer (which includes PACs as well) is well within the threshold limits of Regulation 3(2).

In this regard, it is appropriate to note that unlike Regulation 3(1) and (2), the expression used in Regulation 3(3) is not an “acquirer” but a “person”. While the expression ‘acquirer’ is properly defined under section 2(1)(a) of the SAST Regulations, 2011 to include acquisitions by persons acting in concert (PACs) as well, the expression ‘person’ used in Regulation 3(3) is not so defined. Accordingly, in case of increase in holding of an individual beyond the thresholds given in Regulation 3(1) and Regulation 3(2), the obligation to make an open offer to the shareholders of the target company arises irrespective of the fact whether there is a change in the aggregate shareholding with persons acting in concert or not.

Analysis

While going through the language of sub-regulation 3, a question comes to mind as to whether at all the above interpretation is reasonable.

The very intent of applying the SAST Regulations, 2011 is on substantial acquisition of shares, voting rights or control. It is quite usual in the real world for shares and control to be acquired on a collusive basis by splitting the holdings among several entities. Therefore, it is quite natural to say that holdings of PACs must be aggregated.

Regulation 3(3) talks of a situation where the holding of an individual acquirer goes up, though the holding of the promoter group does not. Such a situation mostly arises in case a company comes up with fresh allotment of shares which is picked by some acquirer, and not by others, thereby leading to a dilution in the stake of the other entities in the group. Hence, the holding of a single acquirer goes up by the threshold of 5%, while that of the group stays within the limit of 5%.

Regulation 3(3) extends the scope of Regulation 3(2). However, the precondition for applying Regulation 3(2) is that the acquirer must be holding 25% already. If, in case of Regulation 3(3), we are moving on a stand-alone basis, taking the acquisition of a single person, should we still apply the precondition for Regulation 3(2) on a group basis? That is to say, will it not be a diabolical interpretation to consider the group holdings for applying the condition of Regulation 3(2), and then move to stand-alone holdings for the purpose of computing the acquisition of 5%?

If the acquisition of 5% is to be considered disregarding the group, then the precondition for the acquisition, that is, 25% holding, must also be viewed on a stand-alone basis only. It is a well-accepted canon of interpretation that comparison is done between likes, and not dislikes.

Recently, SEBI vide its interpretative letter dated March 1, 2016 under the SEBI (Informal Guidance) Scheme, 2003, in the matter of Capital Trust Limited (“CTL”), has clarified the provisions of Regulation 3(3) of the SAST Regulations, 2011. SEBI has rejected the claim that the increase in individual shareholding or voting rights beyond a prescribed threshold should not trigger an open offer if the aggregate shareholding or voting rights of the acquirer and PACs do not exceed the threshold applicable to such aggregate shareholding or voting rights.

Brief facts of the case

CTL is the target company and by virtue of sale of shares of CTL by its corporate promoter, the shareholding of the promoter group of CTL came down to 71.87% from 72.05%. However, pursuant to conversion of warrants into equity shares of the Company, the shareholding of the individual promoter in CTL increased from 30.03% to 38.26% i.e. around 8%.

SEBI’s clarification

In the instant case, SEBI has clarified that the shareholding of the individual promoter prior to acquisition was 30.03% which is above the 25% limit as specified in Regulation 3(2) of SAST Regulations, 2011 for triggering open offer obligations. Further shares representing 8.23% of the paid up share capital of the target company were acquired by the individual promoter, which also brings the transaction within the ambit of Regulation 3(2) of the SAST Regulations, 2011. Regulation 3(3) of the SAST Regulations, 2011 will also be applicable to the acquisition of shares representing 8.23% of the paid up share capital of the target company. This is because sub-regulation 3 of Regulation 3 clearly lay down that even where the change is in individual shareholding of the acquirer, regardless of change in aggregate shareholding of PACs, the same will attract the provisions of Regulation 3(2). Consequently, open offer obligation as per the SAST Regulations, 2011 will have to be complied by such individual acquirer.

In order to arrange for an understanding of the above, we would discuss this with the help of some examples given below:

Holding
Whether Regulation 3 applicable?
Rational
Individual

Individual +
PACs
1% - 8%
26% - 30%
No
Holding of promoter group is not exceeding the creeping acquisition limit and individual shareholding post-acquisition is less than 25%.

21%-27%
30%-32%
Yes, Regulation 3(1)

Post-acquisition shareholding of Individual is more than 25%.
0%-5%
25%-27%
No
Holding of promoter group is not exceeding the creeping acquisition limit and individual shareholding post-acquisition is less than 25%.

25%-32%
44%-48%
Yes, Regulation 3  (3)

Individual shareholding exceeds the creeping acquisition limit.
20%-21%
22%-25%
Yes, Regulation 3 (1)

Post-acquisition shareholding of promoter group is 25%.
20%-25%
26%-32%
Yes, Regulation 3(1) and (2)

Post-acquisition shareholding of individual is 25% and holding of promoter group is exceeding the creeping acquisition limit.

Conclusion

Therefore, in line with the above discussion, the interpretation of Regulation 3(3), in the context of Regulation 3(1) and 3(2), will be as follows:

- If the person on a stand-alone basis holds 25% or more of the shares or voting rights of the target company;  and

- The increase in holding of such person on stand-alone basis, is above 5%,

- Then the open offer obligation will be triggered for such individual even if the acquisition, together with the PACs, does not cross the threshold limits.


- Jyoti Srivastava

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