RBI encourages cross-border M&A, simplifies ownership transfer
Sanjay R. Buch (Partner, Crawford Bayley and Co.)
Ananya Gupta (Associate)
In furtherance of its existing policy to rationalise and streamline various regulations pertaining to foreign exchange management and make these regulations consistent with the prevailing regulatory regimes in foreign investor companies, the Reserve Bank of India (“RBI”) has amended Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 by inserting a new regulation 10A[1]. The said regulation is reproduced as follows-
“10A.In case of transfer of shares between a resident buyer and a non-resident seller or vice-versa, not more than twenty five per cent of the total consideration can be paid by the buyer on a deferred basis within a period not exceeding eighteen months from the date of the transfer agreement. For this purpose, if so agreed between the buyer and the seller, an escrow arrangement may be made between the buyer and the seller for an amount not more than twenty five per cent of the total consideration for a period not exceeding eighteen months from the date of the transfer agreement or if the total consideration is paid by the buyer to the seller, the seller may furnish an indemnity for an amount not more than twenty five per cent of the total consideration for a period not exceeding eighteen months from the date of the payment of the full consideration.
Provided the total consideration finally paid for the shares must be compliant with the applicable pricing guidelines.”
The key features of the said amendment are-
a) Applicability of the new regulation 10A- This regulation is applicable to
- transfer of shares between a resident buyer and a non-resident seller or
- transfer of shares between a non resident buyer and a resident seller.
b) Deferred Payment- Deferred payments can be made within a period not exceeding 18 months from the date of the agreement and up to 25% of the total consideration can be paid by the buyer on a deferred basis.
c) Escrow arrangement- The buyer and the seller may enter into an escrow agreement and an escrow arrangement may be made for an amount not more than 25% of the total consideration and for a period not exceeding 18 months from the date of the agreement.
d) Indemnity may be furnished by the seller- If total consideration is paid by the buyer, then the seller may furnish an indemnity for an amount up to 25% of the total consideration and for a period not exceeding eighteen months from the date of the payment of the full consideration.
Implications of the amendment-
Measures such as deferring receipt of consideration for transfer of ownership of shares and facilities for escrow arrangements have been enforced by the RBI in order to facilitate ease of doing business.
This amendment gives an impetus to cross border share purchase agreements and simplifies transfer of ownership of a company wherein FDI is involved. Hitherto, deferment of payment of the payment of the amount of consideration by a non resident acquirer, for transfer of shares from resident to non resident required prior approval of the RBI.
As a general rule, an escrow account is allowed to be maintained for a maximum period of 6 months. However, an escrow arrangement for deferred payments can be made for a period up to 18 months. This extension of time period, specifically permitted for an escrow arrangement in case of share purchase, will protect the buyer’s rights by providing an effective remedy in case of breach of any stipulated conditions for which the escrow is created.
Further, it is pertinent to note that payment of consideration can be deferred for a period not exceeding 18 months from the date of the transfer agreement. Further, the escrow arrangement cannot exceed 18 months from the date of the transfer agreement. However, when the total consideration is paid, the seller may furnish an indemnity for a period not exceeding 18 months from the date of payment of the full consideration. This indicates that the degree of protection offered to the buyer in case of seller’s indemnity is higher than the degree of protection offered by escrow arrangement or deferred payment.
On the flipside, this amendment places restriction on the period of indemnification i.e. up to 18 months from the date of payment of total consideration and the amount of indemnification i.e. 25% of the total consideration, if the total consideration is paid, This may prove to be inconvenient for the buyer. Prior to this amendment, parties were free to contractually decide the indemnification period and the amount of indemnification.
The Reserve Bank of India (“RBI”), by its circular dated May 24th, 2007[2], permitted AD Category – I banks to open Escrow account and Special account on behalf of non-resident corporates for acquisition/transfer of shares/ convertible debentures of an Indian company through open offers/ delisting/ exit offers, subject to compliance with the relevant SEBI Takeover Code and other applicable SEBI regulations. In all other cases of opening/maintaining of Escrow accounts for FDI related transactions, prior approval from the Reserve Bank was necessary.
By a circular dated May 2nd, 2011[3], the RBI has further permitted AD Category – I banks to open and maintain, without prior approval of the Reserve Bank, non-interest bearing Escrow accounts in Indian Rupees in India on behalf of residents and/or non-residents, towards payment of share purchase consideration and / or provide Escrow facilities for keeping securities to facilitate FDI transactions subject to certain terms and conditions. The RBI has also permitted SEBI authorised Depository Participants, to open and maintain, without prior approval of the Reserve Bank, Escrow accounts for securities subject to certain terms and conditions. In both cases, the Escrow agent shall necessarily be an AD Category- I bank or SEBI authorised Depository Participant (in case of securities’ accounts). Thus, the insertion of the new regulation 10A has further liberalised the norms for opening and maintaining an escrow account in case of share transfer agreements.
Conclusion
Deferred payment of consideration, escrow arrangement and indemnity play a crucial role in merger and acquisition transactions. It enables the parties to manage and mitigate risks associated with these transactions. The amendment of the norms pertaining to deferred payment of consideration, escrow arrangement, and seller’s indemnity in case of share transfer agreements will go a long way in ensuring investor protection as well as flexibility of doing business.
It can be seen that over the years RBI is constantly moving towards a regulatory regime which is aimed at making India a favoured destination for foreign investments. It is our fervent hope that this amendment helps both buyers and sellers to fruitfully close their transactions and safeguard their interests
[1] Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) (Seventh Amendment) Regulations, 2016 enforced on May 20, 2016. The same can be accessed at http://lawstreetindia.com/news/1532/RBI-permits-payment-of-share-transfer-consideration-on-deferred-basis-amends-FEMA-Regulations
[2] This circular can be accessed here- https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=3549&Mode=0
[3] This circular can be accessed here- https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=6369&Mode=0