Analysis of the new SEBI circular on schemes of arrangement

by Shashank Prabhakar

SEBI has issued yet another circular on March 10, 2017, for regulating schemes of arrangement by listed entities. This is the fourth circular on this subject that has been issued by SEBI in as many years.

First, there was the circular dated February 4, 2013, which was substantially revised by another circular that was issued in quick succession on May 21, 2013. Then there was the circular dated November 30, 2015 (“Erstwhile Circular”) which was issued after the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 came into effect on November 15, 2015. To be fair, the SEBI board meeting that was held in January 2017 articulated the reasons which necessitated the change in the regulations that governed scheme of arrangements and the changes proposed were based on SEBI’s experience of having dealt with, studied and approved over 600 schemes of arrangement over the last 4 years.

One hopes that the March 10, 2017 circular (“Circular”) is robust enough to prevent market abuse and misuse of the exemption provided under Rule 19(7) of the Securities Contracts (Regulations) Rules, 1957. This article briefly analyzes the most important changes brought in by the Circular.

Scheme of arrangement between a listed entity and unlisted entity

SEBI was concerned that certain large unlisted entities had in the past merged into small listed companies without going through the IPO route and complying with the disclosure requirements under the SEBI ICDR Regulations.

SEBI felt that the existing disclosure requirements were not be sufficient in maintaining integrity of the market and the interest of investors. In order to address this issue, the Circular (in paragraph 3) stipulates that the listed entity shall now provide its shareholders with more information pertaining to the unlisted entity with which it proposes to enter into a scheme of arrangement.

Applicable information pertaining to the unlisted entity will now be required to be provided in the same format prescribed for issuing an abridged prospectus in Part D of Schedule VIII of the SEBI ICDR Regulations, as part of the explanatory statement of the notice that would be sent to the shareholders for passing of the resolution to approve the scheme of arrangement. The disclosures made under this provision would also be disclosed on the websites of the stock exchanges where the shares of the listed entity are listed.

Further, the accuracy and adequacy of the disclosures made therein would have to be certified by a registered merchant bank after conducting due diligence on the unlisted entity.

Furthermore, the Circular also provides that the pre-scheme public shareholders of the listed entity and the QIB shareholders of the unlisted entity, in the post scheme shareholding pattern of the combined entity shall not be less than 25% of its total share capital.

Does this mean that an unlisted entity with no pre-scheme QIB shareholders cannot enter into a scheme of arrangement with a listed entity?

The Circular does not clarify this. In any case, enhanced disclosures and verification of the disclosures made by a merchant banker will provide shareholders with additional information and will help them make better choices when voting.

Approval of shareholders

The Erstwhile Circular stipulated that listed entities provide for voting through postal ballot and e-voting only in those limited circumstances where approval of the public shareholders was required for the scheme to be effective. However, the Circular now makes it compulsory for listed entities to provide for e-voting in all cases.

Further, SEBI has added two more situations in which majority of the public shareholders will be required to provide their assent to the scheme of arrangement in order for it to be effective. Earlier, this was required only in the following three circumstances: (a) schemes of arrangement where members, related parties, associates, subsidiaries of the promoter / promoter group were allotted additional shares; (b) schemes of arrangement involving a listed entity and any other entity involving promoter / promoter group or their related parties, associates or subsidiaries; and (c) scheme of arrangement involving acquisition of where the listed entity had, directly or indirectly, acquired shares of a subsidiary from members of the promoter / promoter group, their related parties, associates, subsidiaries of the promoter / promoter group of the parent listed entity.

In addition to these cases, two more have now been added by the Circular, which are: (a) A scheme of arrangement involving a merger between a listed and unlisted entity which results in the reduction of the voting share of the pre-scheme public shareholders in the combined entity by more than 5%; and (b) a scheme of arrangement involving transfer of the whole or substantially the whole of undertaking of the listed entity and the consideration for such transfer is not in the form of listed equity shares.

The addition of the last of these new conditions is a tacit approval of SEBI for payment of non-compete fees to promoters of listed companies who transfer whole or substantially the whole of the listed entities.

Under the Erstwhile Circular, payment of a non-compete fee did not necessarily require approval of the majority of the public shareholders. There were reports circulated in the media earlier that SEBI was examining the issue of payment of non-compete fees, particularly after the announcement of the composite scheme of arrangement for the merger between HDFC Life Insurance and Max Life Insurance. The promoters of the Max Life Insurance, who were being paid a non-compete fee of Rs. 800 crores by HDFC Life Insurance, did go to the public shareholders voluntarily to get their approval for the payment of the non-compete fee.

It is indeed commendable that SEBI has allowed payment of such fees subject to the approval of the majority of the public shareholders. However, the approval of the majority of the public shareholders will only be required in the limited circumstance of only when the fee is being paid to a promoter of a listed entity who is transferring the whole or substantially the whole of the undertaking through a scheme of arrangement. Other situations are not covered. For instance, where a listed entity ‘A’ acquires an unlisted entity ‘B’ through a scheme of arrangement and pays a non-compete fee to the promoters of ‘B’ in addition to allotting them shares in the combined entity, there is no requirement for obtaining an approval of the majority of the shareholders. It is not clear why the language of the Circular is limited in this manner. Ideally, payment of non-compete fee, irrespective of whether it is paid to the promoter of a listed entity or unlisted entity must be covered and assented to by a majority of the public shareholders.


In situations of a de-merger involving a spin-off of an undertaking of a listed entity into an unlisted entity whose shares are proposed to be listed, the Circular stipulates that the entire pre-issue share capital of the unlisted entity will be locked-in from the date of listing of its shares, for one year. However, the burden on the promoters is slightly heavier in that the shares held by them in the unlisted entity prior the scheme of arrangement upto 20% of the entire post scheme of arrangement share capital will be locked in for a period of three years.

The new lock-in provision introduced by the Circular is similar to Regulation 36 and 37 of the SEBI ICDR Regulations which specifies the lock-in period for promoters and non-promoters, alike. However, Regulation 37 provides a couple of exemptions from lock-in for shares issued under ESOP schemes and shares issued to registered venture capital and foreign venture capital investors. There is no exemption for these shareholders under the Circular. The only circumstance in which lock-in requirements do not apply under this Circular is when the post scheme of arrangement shareholding of the unlisted entity is exactly similar to the shareholding pattern of the listed entity.

Shashank Prabhakar is a Senior Associate at Finsec Law Advisors.