Author – Rukman Banka, Student from O.P. Jindal Global University.

INTRODUCTION

Before we talk about the Regulations governing the two processes of “open offer” and “buy-back”, let’s understand the meaning and purpose which they entail. Open offer is an offer which is mandatorily to be offered by the acquirer (the company which, directly or indirectly, acquires shares or voting right or control over another company) to the existing shareholders of the target company (the company of which the acquirer acquires shares or voting rights or control, directly or indirectly). It provides for an exit route to the existing shareholder of the target company of which such acquisition happens. For example, the public shareholders buy stake of ABC Ltd., which is an oil company. However, after a year, another company, XYZ Ltd. which is in the mining industry, acquires shares or voting rights or control over ABC Ltd. Such acquisition is ought to make an investor feel cheated as the reasons for which they bought the stake in ABC Ltd.- an oil company- the strategies, management, plans, etc. of which would be subject to change after such acquisition. Hence, through this mechanism of inviting tenders of their shares, the existing shareholders get an exit opportunity at a particular price to avoid any potential pitfalls.

Buyback, as evident from the nomenclature, is a process of buying back the shares from the owners of it. Buyback is when the company buys back the shares of its existing shareholders. It is also an exit mode like open offer, however, the decision to go for a buyback is voluntary for a company but it does have to fulfil various trigger requirements. In order to get a clearer picture of the subject of discussion of this paper, it’s important to understand the regulations governing these two exit mechanisms and how they are related to each other.

KEY REGULATIONS:

Buyback finds its mention under Companies Act, 2013 from Section 68 to 70. It is also regulated under Securities and Exchange Board of India (Buyback of Securities) Regulations, 2018. Open offer is regulated under Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (“Takeover Code”). The mandatory public offer (as per Regulation 4 of the Takeover Code) is triggered in three scenarios under Regulation 3 of the Takeover Code which allots numerical threshold to each trigger:

1. Regulation 3.1: acquisition of 25% or more shares or voting right in the target company along with persons acting in concert (“PAC”).
2. Regulation 3.2: acquisition of more 5% additional voting rights by an existing shareholder with minimum of 25% voting rights but not exceeding 75%, in one financial year along with PACs. 
3. Regulation 3.3: where the individual shareholder crosses the 25% threshold even when the PAC’s shareholding is within the 25% limit.

Whenever an acquisition is breaching any of the above mentioned triggers, the acquirer has to mandatorily make a public offer. Another important rule under Takeover Code is Regulation 10 which lays down the circumstances under which the acquirer is exempted from making an open offer one of which is buyback of shares. The question which might arise now is if buyback as means of acquisition of shares is expressly exempted under Regulation 10, then what is the issue that we are addressing here? The problem arises when buyback is used as strategy for passive acquisition by means of increase in shareholding or voting right which is incidental to the buyback of shares.

An illustrative situation of such passive acquisition can be where a company has, say, Rs. 100 crore of share capital. It carries out a buyback of 20% of its shares amount to Rs. 20 crore, in which some shareholders do not participate fully. Since the share capital reduces to Rs. 80 crore, the holding percentage of such shareholders will also automatically raise (Rahul Tiwari, 2013). To elaborate further, a shareholder whose holding percentage before the buyback was 15% of Rs. 100 crore share capital, amounting to Rs. 15 crores, which now, after its evaluation on Rs. 80 crore as the share capital, would amount to a shareholding percentage of 18.75%. Therefore, in a scenario where, due to buyback of shares, a shareholder, due to the increase in their % holding in the company, crosses any of the threshold triggers under Takeover Code, leads to the question of whether they are mandatorily required to make an open offer despite an express exemption of acquisition through buyback under Regulation 10 of the Code.

This paper will address this question in the light of an order passed by SEBI in the case of OCL India Limited (“OCL”) (Raghu Hari Dalmia v. SEBI). Note that, the case was decided under the old Companies Act, 1956 and SEBI (Substantial Acquisition of Shares and Takeover) Regulation 1997. Under Regulation 11 of SAST, 1997, the rule was that an acquirer along with the PACs, acquires 15% or more but less than 75% of shares or voting rights of the target company along with not more than 5% of additional of voting rights in the same financial year, must make an open offer to the public.

The fact of the case is such that SEBI issued a show cause notice to OCL for having breached the mandate under Regulation 11. OCL issued a buyback offer, post which, the shareholding of the promoter increased from 62.56% to 75%, thus triggering the threshold under Regulation 11 without making a public offer to the shareholders. It was argued by the acquirer that increase in shareholding is an inevitable consequence of buyback and does not imply ‘acquisition of shares’. It is also pertinent to note that the promoter whose shareholding increased did not participate in the buyback of shares which is exempted under Regulation 3 of SAST, 1997 (corresponding Regulation 10 of Takeover Code, 2011).

SEBI under order dated 28^th January, 2010 declared that Regulation 11 of the Code, 1997 is very clear and unambiguous on the laws of open offer. The mode of acquisition, direct or consequential, is irrelevant to the Regulation and only the increase in voting rights, whatever the means may be, is regulated under this rule, and hence, rejects the contentions of the acquirer. The right accrued upon the Acquirer to exercise such additional voting rights (12.44% increase > 5% threshold given) is what matters irrespective of whether it is a direct acquisition or consequential acquisition; subsequently it becomes imperative for the Acquirer to make an open offer unless he is exempted under Regulation 3 of the takeover code. This decision made by SAT expanded the scope of the Regulation profoundly, making it vulnerable to misuse and exploitation.

According to the new Takeover Code, 2011, the SAT decision in the case of OCL India Limited stands contradictory and invalid. Under Regulation 10(3) and Regulation 10(4) of the Takeover Code of 2011, there is an express exclusion of increase in voting rights which result from a buyback scheme carried out by the company. However, this exemption comes with a few limitations. The exemption, under Regulation 10(3), is granted only when such increased voting right is reduced down to 25% within a period of 90 days along with the fact that such increase must be a rise from below 25% to above 25% and not otherwise. Further, under Regulation 10(4), which governs the 5% increase in voting rights, grants the exemption only in the circumstance where after the buyback of shares, their holding remain within the minimum cap of 25% and maximum permissible cap of 75%, which if crossed, must be brought down to the prescribed limit within 90 days.

The restriction under Regulation 10(4) also comes with few other conditions enumerated thereunder such as the shareholder must not participate in voting during the special resolution which authorizes the buyback of securities under Companies Act, 2013, and in case of shareholder resolution, the voting must be carried out by means of postal ballot. If any of the above mentioned requirements are not complied with, the acquirer has to make the mandatory public offer, failing which, they are subject to penalty under the Code, 2011.

CONCLUSION:

The exit opportunities, both by means of open offer as well as buybacks may seem like an attractive route to an investor in order to get the best deal out of their investment and take an exit without bearing any loses. As seen from the above mentioned laws, these mechanisms come with their own limitations, the background check of which an investor must do as their homework before caving in for the lucrative offer. However, the Takeover Code, 2011, through its amendments, has done a commendable job at streamlining the exemptions and getting rid of overlapping obligations, which lead to lacuna in law that can be easily manipulated.