M&A through Share Swap/Stock Swap Arrangements

Introduction

A share swap arrangement signifies issuance of a share in exchange for a share rather than remittance of cash consideration. Share Swap arrangements occur when shareholders’ ownership of the target company’s shares is exchanged for shares of the acquiring company as part of any restructuring.

For instance, two companies, A and B, come together to form company C. If the two companies enter into a Share Swap Arrangement, the shareholders of company A can be given shares of company C for every share of company A that they owned. A similar arrangement can be made for company B as well. Now, if such an arrangement occurs between companies wherein the Indian parties are shareholders of the Indian company and the other company is a foreign company, the arrangement would attract both regulations prescribed under the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004 (the ODI Regulations) and the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2017 (the FDI Regulations).

Share Swap arrangements can be useful mechanisms to raise investment in the case of an externalisation plan. Externalisation plans involve promoters of Indian entities moving their holding entities outside India (in case more information about externalisation is required, refer to our article on externalisation schemes, which can be accessed at https://novojuris.com/2018/06/24/ externalisation-many-Indian-startups-are-choosing-to-have-their-holding-entity-outside-india/).

In such scenarios, both FDI Regulation and ODI Regulations become applicable owing to the fact that there is a transfer of shares of an Indian company to a person resident outside India and there is an acquisition of shares of a Foreign Company by a resident Indian in the manner. Therefore, an adherence with the applicable FDI Regulation and ODI Regulation is required for the share swap arrangements.

Implications under FDI Regulations

The FDI Regulations would be applicable in the case of a share swap arrangement where any one company to the transaction is non-resident and the transaction becomes eligible to be governed by the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2017 and Foreign Direct Investment policy (“FDI Policy”) issued by the Department of Industry Policy and Promotion every year. A key thing that has to be kept in mind is that as per the FDI Regulation, the price of shares offered should not be less than the fair market value of shares valued by SEBI registered Merchant Banker.

Reporting Requirements

The FDI policy provides primarily for two types of reporting mechanisms:

  1. one through the filing of an FC-TRS (Foreign Currency- Transfer of Shares) Form by the Indian company which becomes applicable in the case of transfer of shares, where one party is a non-resident and another one being a resident Indian; and
  2. second being through the filing of an FC-GPR (Foreign Collaboration- General Permission Route) Form by the Indian company which becomes applic`able in the case of allotment of-of shares by an Indian Company to a person resident outside India.

General permission has been granted to non- residents to acquire shares from Indian shareholders under swap arrangement, provided that the price of shares offered is not less than the fair market value of shares valued by SEBI registered Merchant Banker. However, in the case of share swap arrangement between the entities whose sector is under Government approval route, prior approval would be required.

Implications under ODI Regulations

As mentioned above, the ODI Regulations would be applicable in the case of a share swap arrangement where any one company to the transaction is non-resident. In case of share swap arrangement under externalization, the shareholders of Indian company who are resident Indians would acquire shares of the foreign company in exchange for their shares of the Indian company. The share swap arrangement under the ODI Regulations would fall under the automatic route unless otherwise prescribed under FDI Regulation. The arrangement would also be subject to the sectoral caps and entry mechanisms as applicable under the FDI Regulation and approvals from the relevant ministries.

Reporting Requirements

The resident Indian shareholders of an Indian company would be required to file Form ODI with the Authorised Dealer Bank for reporting the share swap arrangement. The Form is required to be submitted to the RBI within 30 (thirty) days of making the share swap.

Conclusion

From a regulatory standpoint, the key question which is not clear is whether the share swap arrangement would fall under general permission category of ODI Regulation & FDI Regulation or under the Government approval. While the respective regulations are clear that prior approval is needed only in case if the sector is under approval route as per FDI Policy and FDI Regulation. However, practically it has been seen that the Reserve Bank of India on case to case basis, has insisted upon such prior approval requirement. There is a need for better clarification or notification from the Reserve Bank of India.

Additionally, it is pertinent to note that the ODI Regulation mandates for prior approval of the Foreign Investment Promotion Board (FIPB) which has been abolished in 2017. Now, in case any such approvals are required, the proposals will be scrutinized and cleared by sector-specific departments concerned.

Authors: Mr Spandan Saxena and Mr Ashwin Bhat

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