SEBI Takes Next Steps toward Reforming the Indian Takeover Code

August 19, 2011


Exchange Board Partially Accepts Recommendation of TRAC

The Securities and Exchange Board of India (“SEBI”) has announced that it plans to partially accept recommendations of the Takeover Regulation Advisory Committee (“TRAC”), a committee it formed in 2009 to propose amendments to the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 (the “Takeover Code”).

In 2010, TRAC submitted a report to SEBI (the “TRAC Report”) detailing its suggested changes to the Takeover Code. After a year of deliberation, SEBI issued a press release on July 28th, 2011, accepting some of the reforms, rejecting others, while leaving still other recommendations for future consideration. A full copy of the release is available here.  

The SEBI announcement provides a first indication of the extent to which SEBI would accept the recommended reforms to the Takeover Code. Among the TRAC recommendations that SEBI rejected was a proposal to require the acquirer to make a general announcement to the public that it will purchase for cash (referred to as an “open offer”) up to 100% of a target’s voting rights for offers above a minimum offer threshold. A requirement to commence an open offer for 100% of the target’s outstanding voting rights would have dramatically impacted growth equity investors seeking a minority stake above the minimum offer threshold. SEBI’s decision to reject this proposal indicates that reforms to the Takeover Code may not be as far reaching as investors anticipated. However, some of the reforms accepted by SEBI will soon become effective, which will change well-established rules concerning the acquisition of listed companies in India.

Since the accepted reforms are expected to become codified in the near future, investors in Indian companies should evaluate these reforms in light of ongoing or proposed bids. Investors should also monitor future SEBI announcements on the TRAC recommendations to determine how the Takeover Code may be amended further and the impact on acquirers of listed Indian companies.

TRAC Recommendations Approved by SEBI

SEBI will accept TRAC recommendations concerning the initial trigger for mandatory open offers, voluntary open offers, non-competition fees and board recommendations. The threshold for triggering a mandatory open offer would increase from the existing 15% to 25% of the outstanding voting rights of the target company. The increase in this threshold aligns the Takeover Code more closely with the laws of other jurisdictions, such as the UK, Singapore, Hong Kong, E.U. countries and South Africa, where mandatory open offers are triggered at thresholds of 30% to 35% of voting rights.1 The new threshold will provide investors with the ability to acquire a greater equity interest in a target company without triggering the requirement of launching an open offer. This reform should encourage larger growth equity investments in Indian listed companies.

A second reform accepted by SEBI would establish rules for voluntary open offers. A voluntary open offer is a procedure by which a significant shareholder may increase its position without triggering the requirement of an open offer. Under the current rules, acquirers may consolidate their shareholdings below 20% of a target’s outstanding voting rights without triggering the requirement for an open offer. Under the TRAC proposal, shareholders in excess of 25% of the target’s outstanding voting rights may voluntarily make an offer to consolidate their holdings, so long as the offer is for a minimum of 10%.2

A third major reform accepted by SEBI is to eliminate the express carve out for non-compete payments to selling shareholders from the determination of the offer price. Under the Takeover Code, a bona fide non-compete payment made to selling shareholders of less than 25% of the total consideration to be paid in the transaction may be treated as a separate payment and not consideration for shares.3 This rule is intended to discourage the practice of paying promoters large sums of money disguised as non-compete agreements which is actually share consideration.4 SEBI appears to have accepted TRAC’s rationale that it is difficult to assess whether a non-compete payment is reasonable, or is merely a disguise for additional consideration made to controlling shareholders without paying the same to the public shareholders. SEBI has decided to eliminate the express carve out for non-compete payments and require that all consideration in any form to selling shareholders, whether termed as “control premium,” “non-compete fees” or otherwise, must be added to the negotiated price per share for the purpose of determining the open offer pricing.5

TRAC recommendations that SEBI will accept:  


Current Rules

Accepted TRAC Recommendations

Initial trigger threshold for open offer obligation Initial trigger threshold is 15% of outstanding voting rights. (Takeover Code, Reg 10)  Initial trigger threshold would be increased to 25% of outstanding voting rights. (TRAC Report, p.25)  
Voluntary open offers An acquirer who desires to maximize its shareholdings may make an open offer for the lower of 20% of outstanding voting rights and the maximum permissible acquisition without breaching the minimum public shareholding requirement. (Takeover Code, Reg 11(2A)) An acquirer holding 25% or more of the outstanding voting rights in the target company would be permitted to voluntarily make an offer for additional shares so long as the offer is for at least 10% of the outstanding voting shares. (TRAC Report, p.28)
Non-compete fees Non-compete fees paid to selling shareholders are permissible below 25% of the open offer price. (Takeover Code, Reg 20(8)) There would be no separate provision for non-compete fees and all consideration would be used to determine the price at which all shareholders have an opportunity to exit. (TRAC Report, p.38)
Recommendation on the open offer by the board of target company to the target shareholders The board of the target may provide its unbiased comments and recommendations to the shareholder of the target at its discretion. (Takeover Code, Reg 23(4)) The independent members of the board of the target would be required to make a reasoned recommendation (for or against) the offer to the shareholders of the target. (TRAC Report, p.63)
Competitive offers  In general, any person other than the acquirer may make a competing offer within 21 days of the public announcement of the first offer. Any competitive offer shall be for such number of shares which, when taken together with shares held by the acquirer, is at least equal to the holding of the first bidder including the number of shares for which the present offer by the first bidder has been made. (Takeover Code, Reg 25(1)) Among other recommendations, the period for making a competing offer would be 15 business days from the date of announcement of the original offer and the successful bidder would be permitted to acquire shares of other bidder(s) within 21 business days after the offer period without being subject to further offer obligations. (TRAC Report, p.48)


TRAC Recommendations Modified or Rejected by SEBI

TRAC’s proposal to increase the mandatory open offer requirement to 100% of the target’s outstanding voting rights was among the most far reaching recommendations in the TRAC Report. Under the current Takeover Code, an offer for in excess of 15% of a target’s outstanding voting rights triggers a requirement to make an open offer for an additional 20% of the target’s outstanding voting rights. TRAC had recommended that the minimum offer size be increased to 100%, on the basis that a mandatory open offer for all outstanding shares would allow an equal exit opportunity for all shareholders, rather than only a proportionate one. TRAC further noted that many other countries had adopted the 100% mandatory open offer requirement.6

SEBI rejected the TRAC proposal, instead approving (i) an increase in the minimum initial trigger threshold from 15% of the outstanding voting rights to 25%, and (ii) an increase in the minimum offering size from the existing 20% of the remaining outstanding voting rights to 26%. In adopting only a modest increase in the minimum offer size, SEBI apparently sided with the view that a 100% mandatory open offer requirement as an overly burdensome obligation on bidders for minority stakes in Indian companies. SEBI also noted that acquirers exceeding the new minimum initial trigger threshold and completing the mandatory open offer of 26% of the outstanding voting rights would achieve a controlling stake of 51% in the target.

SEBI also announced that it is rejecting at least two other suggested recommendations of TRAC. The first rejected recommendation would have significantly simplified the process for delisting an Indian company. Under SEBI’s current Delisting Regulations, there is a separate framework for voluntarily delisting a company. These regulations require a separate open offer to be made to shareholders after a threshold of 90% ownership is reached.7 The effect is to make it exceedingly difficult to de-list an Indian company, even after achieving 90% private ownership. In addition, there is no provision in Indian law for a squeeze out of the minority.8 TRAC made its recommendation concerning delisting on the argument that permitting delisting of a company if the share holdings of the acquirer crosses the delisting threshold via a single open offer would vastly simplify the procedure, thus removing a barrier to transactions in which the acquirer desired to delist the target.

The second other rejected recommendation would have expanded the definition of “control” when used to determine whether an acquirer has gained control of the target, for the purposes of determining whether the open offer rules are triggered. Under the current rules, “control” exists when the acquirer has the legal right to appoint a majority of directors or to control the management or policy decisions (including through the exercise of shareholding or management rights or shareholder agreements or voting agreements). Under the TRAC proposal, this definition would have been significantly expanded, to include “de facto” control, such that an acquirer with the ability to control a target, for example by appointing any directors or influencing management decisions, would be considered in “control” for purposes of the open offer rules. Adopting such an approach would require control to be evaluated on a case by case basis, by reference to particular facts and circumstances.  

TRAC Recommendations Not Yet Addressed by SEBI

SEBI has yet to release its position on several other recommendations of TRAC. Some of the remaining recommendations have potentially far reaching consequences for the acquisition of listed companies in India. For example, under current rules, an open offer may not be withdrawn, even in circumstances where a condition that the acquirer has imposed in a purchase and sale agreement with a major shareholder is not satisfied. Under the TRAC recommendations, an open offer could be withdrawn if a condition outside the control of the acquirer is not satisfied. Such a reform would remove a significant concern of acquirers who are forced to make open offers even when a share purchase transaction with a major holder has unsatisfied conditions. Another reform would clarify the standard of conduct required of a merchant banker, amending a current provision in the Takeover Code that requires the merchant banker to “ensure” compliance by parties of the provisions of the Takeover Code.

As SEBI has indicated in its press release that a majority of the TRAC recommendations have been accepted, it is likely to assume that some or all of these recommendations will be accepted. It is therefore likely that SEBI will issue further press releases taking positions on the remaining recommendations.

TRAC recommendations which SEBI has not yet taken a public position: 


Current Rules

TRAC Recommendation

Creeping acquisitions An acquirer that already holds more than 15% of total voting rights9 but less than 55% of the total voting rights,10 may acquire up to an additional 5% of the total voting rights11 within a financial year without having to make a mandatory open offer. Further, where the holding is above 55% of the total voting rights but less than 75% of the total voting rights, a one-time allowance to increase such person’s shareholding by an additional 5% of the total voting shares through market purchases or pursuant to a buy back by the target company, without having to make a mandatory open offer, provided that post acquisition the aggregate holdings of such acquirer does not exceed 75% of the total voting rights. (Takeover Code, Reg 11) Creeping acquisition limit would be 5% of the total voting rights12 per financial year computed on a gross basis for all shareholders holding more than 25% of the total voting rights so long as the maximum non-public shareholding limit is not breached. (TRAC Report, p.27) 
Withdrawal of open offer No open offer, once made, shall be withdrawn unless: i) the statutory approval required has been refused; ii) sole acquirer, being a natural person, has died; or iii) such circumstances as in the opinion of SEBI merits withdrawal. (Takeover Code, Reg 27(1)) In addition to the current rules, an open offer may be withdrawn where any condition stipulated in the agreement for acquisition which triggers obligation to make an open offer is not met for reasons outside the reasonable control of the acquirer, and such agreement is rescinded, subject to such conditions having been disclosed in the detailed public statement and the letter of offer. (TRAC Report, pp.45-46)
Obligations of target: material actions The target may not, during the open offer period sell, transfer, encumber or otherwise dispose of assets of the company or its subsidiaries or enter into any material contracts. (Takeover Code, Reg 23(1)) The restrictions are to be retained to the extent the target attempts to carry out material transactions outside the ordinary course of business without the consent of its shareholders, and the restrictions should be expanded to cover the subsidiaries of the target. (TRAC Report, p.49)
Obligations of acquirer: disposal of target assets If the acquirer has not stated its intention to dispose of or otherwise encumber any assets of the target, the acquirer is prohibited from doing so for a period of two years from the date of closure of the open offer (except for transactions in the ordinary course of business of the target).13 (Takeover Code, Reg 22(18)) The prohibition would be generally retained and expanded to include the assets of subsidiaries. (TRAC Report, p.65)
Obligations of the merchant banker Merchant banker shall ensure compliance of the Takeover Regulations and any other obligations, laws or rules as may be applicable in this regard. (Takeover Code, Reg 24) The role of the merchant banker would be clarified to an obligation to demonstrate the application of due skill, care and diligence in the discharge of professional duties and bona fide efforts undertaken to professionally and diligently discharging the role envisaged for the merchant banker under the regulations, rather than an insurer of another party’s compliance with the Takeover Code. (TRAC Report p.66) 



In rejecting some of the more far reaching TRAC proposals, SEBI appears to have signaled an incremental approach to reforming the Takeover Code in India. Some of the accepted changes will change well established rules for the acquisition of listed companies in India. Completion of the process of reforming the Takeover Code is still several steps away, however, as several important TRAC recommendations must still be either rejected or accepted by SEBI and changes to regulations implemented to give effect to the accepted recommendations.

1. Report of the Takeover Regulations Advisory Committee, p.26
2. Report of the Takeover Regulations Advisory Committee, p.28, para 2.21
3. Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations 1997, reg 20(8)
4. Regulation 20(8), SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 1997
5. Report of the Takeover Regulations Advisory Committee, p.38, para 4.13
6. Report of the Takeover Regulations Advisory Committee, pp.18-19
7. Report of the Takeover Regulations Advisory Committee, p.21, para 1.18
8. Report of the Takeover Regulations Advisory Committee, p.22, para 1.19
9. Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations 1997, reg 11(1)
10. Ibid
11. Ibid
12. Whilst the Report of the Takeover Regulations Advisory Committee does not specifically use the term “total voting shares,” it makes no distinction from provisions in the Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations 1997, and so on implication it is also referring to “total voting shares;” Report of the Takeover Regulations Advisory Committee, pp.26-27
13. Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations 1997, reg 22(18) 


O’Melveny & Myers is not licensed to practice Indian law, and nothing in this Client Alert should be deemed to be an opinion on or advice concerning Indian law. The above is summarized from publicly available sources and is prepared as a convenience to our clients and friends outside of India.