[By Zoya Farah Hussain & Digvijay Khatai]
The authors are students of National Law University Odisha.
Introduction
The term “delisting” of securities means the removal of securities of a listed company from a stock exchange, providing an exit route for public shareholders from the company. Delisting can be either compulsory or voluntary. In the former case, a public company would delist itself following non-compliance with listing guidelines promulgated by the market regulator, unlike in the latter where the corporation voluntarily delists its securities after due approval of the board of directors and the consensus of major shareholders. Delisting facilitates companies to avoid regulatory compliances associated with being publicly traded in light of strategic shifts in the decisions of the company either due to mergers, acquisitions or other corporate reasons. Internationally, it is a crucial financial structuring instrument that controlling investors employ to increase the value of their investment.
Recently, the Securities and Exchange Board of India (‘SEBI’) has approved certain amendments based on proposals of a consultation paper released on August 2023, to ease up the delisting procedure in Indian stock markets by introducing ‘fixed price’ as an alternative to the ‘reverse book-building method’ (‘RBB’) to determine the exit price of the delisting offer. The Board has approved the amendment to make doing business easier, safeguard investors’ interests, and offer flexibility in the Voluntary Delisting framework.
While the Fixed Price Offer aims to simplify the delisting process and mitigate issues like speculative premiums, it may introduce a whole new set of challenges for minority shareholders and the price discovery process. The article compares both methods, highlighting their respective advantages and drawbacks, and suggests potential improvements, such as incorporating longer-term market price averages, to create a more balanced and transparent delisting framework.
Reverse Book-building method
In India, the procedure of delisting is governed under the SEBI (Delisting of Equity Shares) Regulations, 2021. (‘Delisting rules’) Under the regulations, an ‘acquirer’ is a person who is willing to offer a ‘minimum price’ to the equity shareholders of a company, to which the latter agrees to transfer the shares in favour of the former. The floor price will have to be determined in terms of Regulation 8 of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (“Takeover Regulations”). This regulation precisely embodies within itself, what we call the ‘reverse book-building method’.
The public shareholders upon being offered the floor price by the acquirer, determine the final price (‘discovered price’) using the RBB method, at which they are willing to sell their shares. The discovered price of the shares has to be such, that upon acquisition, the acquirer’s shareholding reaches up to ninety per cent of the total shareholding of the company. The acquirer is generally bound by the discovered price, provided it is equal to the floor price or an indicative price, if any, put up by the acquirer.
As per regulation 22 of the delisting rules, if the acquirer finds the discovered price unacceptable, the same has an option of producing a ‘counter offer’. This counteroffer price by the acquirer further cannot be less than the ‘book value’ of the company, certified by a merchant bank registered under SEBI appointed by the acquirer.
The price discovery mechanism of the existing delisting provisions simply prescribes a floor price of the shares, but not a maximum price. Public shareholders, especially major position holders, can influence the delisting price through the reverse book-building price discovery process. Further, a company’s announcement of delisting its equity shares may cause a rise in volatility and an increase in speculative activity in the company’s shares. The reverse book-building price discovery process provides the ability to public shareholders (especially entities with large positions) to have a say in determining the delisting price. These loopholes are the primary reasons that an alternative has been sought by SEBI.
Fixed Price Offer
SEBI in its board meeting dated June 27, 2024, has approved a ‘fixed price offer’ (‘FPO’) mechanism as an alternative to the RBB method for the purposes of delisting of ‘frequently traded’ public companies. Under the new mechanism, the fixed price will be set at a 15% premium over the floor price that is determined by the delisting rules. The introduction of this method is primarily in furtherance of an aim to simplify the delisting process in light of the ease of Doing Business by not subjecting the acquirer to the hassles of a reverse mechanism and the delays caused by it.
Further, ‘adjusted book value’ has been added as an additional parameter to calculate the floor price of infrequently traded shares of companies under the delisting rules. Certified by an independent registered valuer, this is a key metric, to determine the fair market value of a listed company by subtracting liabilities from assets and adjusting for any intangible assets or liabilities.
Under the new amendments, the threshold for a counter offer by the acquirer has been relaxed to ‘seventy-five per cent’ of the total shareholding as opposed to the ninety per cent margin, provided that fifty per cent of the public shareholding has been tendered.
Is FPO a suitable alternative?
While the recent SEBI discussions have put RBB in an auxiliary position, there needs to be a neutral evaluation of both the contesting methods before promoting either of them.
The loopholes cited in the meeting regarding the method of RBB were, firstly, that the Delisting Price often included an exorbitant premium (at times, more than 100%) over the Floor Price attributable majorly to the speculators who in anticipation of delisting start cornering shares to accumulate a sizeable shareholding to seek an unreasonable premium, thereby making the completion of the process of delisting cumbersome. Secondly, overdependence on public shareholders who are not necessarily equipped with share market information for price discovery leads to promoters being exploited for higher returns. In order to mitigate such loopholes, opinions incline towards the FPO method. While it is expected to provide certainty regarding the pricing of the delisting offer, it introduces new challenges rather than resolving the existing ones.
The RBB method entails a counter-offer mechanism, affording an opportunity to engage shareholders with competitive bids which the FPO method is devoid of. If a fixed price delisting attempt fails, a mandatory six-month cooling-off period applies and the shareholders are presented with a singular price option without room for negotiation. On one hand, it encourages the acquirer to offer competitive price, but on the other, the lack of counter-offer ability hampers price discovery, proving suboptimal for both acquirers and public shareholders.
RBB allows greater room for regulatory scrutiny especially on promoters who try to unduly influence the process of price discovery. In AstraZeneca Pharma India Limited case, an offer for sale (OFS) to comply with the minimum public shareholding requirement was undertaken by the promoter of the said company. The regulatory concerns stemmed from the fact that six sub-accounts associated with Elliot Group received 94% of the OFS at a significant discount to the current market price. Additionally, Elliot Group as a whole acquired 15.52% of the shares through OFS and market purchases, while the promoter held 75% and other public shareholders held 8.89%. As a result, Elliot Group was able to participate in delisting without the need for further support from other public shareholders.
SEBI decided that the pre-determination of the delisting price through agreements between AZPAB and Elliott Group was fraudulent. It was intended to deceive other shareholders in order to get around the Delisting Regulations’ obligation to perform price discovery through the RBB method.
Moreover, under the proposed scheme, minority shareholders would be adversely affected as they would be at the discretion of the price set by the company’s board. The exit price of the shares may be determined solely by the board, which is headed by the company’s majority owners in conjunction with the promoter/acquirer, without consulting the minority shareholders. Minority shareholders neither have the ability to contest the planned delisting by approaching SEBI nor do they have any veto powers to oppose it under the current delisting system.
The existing provisions of the Delisting Regulations enable minority shareholders, in a limited way, to effectively challenge the delisting initiated by the promoter/acquirer.
In anticipation of an acquirer opting for delisting in depressed market conditions, a better alternative could be to pick up the market price over a longer trail-period in the formula for floor Price. This could be by including the volume-weighted average trading price (the average stock price weighted by the total trading volume used to calculate the average price of a stock over a period of time) over the past 90 trading days that is the metric used in determining the pricing for a preferential issuance of shares by a listed company
The FPO method while trying to ensure decent returns for the shareholders by mandating a minimum 15 % premium over the floor price offer from the acquirer largely depends on prevailing market conditions and the company’s valuation as the promoters on account of promotion of FPO might be inclined to delist during depressed market conditions, leading to a potential mismatch between the price expectations of the board and the shareholders.
Conclusion
The Fixed Price Offer (FPO) method addresses the flaws of the Reverse Book-Building (RBB) method, such as speculative premiums and reliance on public shareholders for price discovery. However, while FPO simplifies delisting, it risks undermining minority shareholder protection and price negotiation. Both methods impact stakeholders by balancing the acquirer’s control with the need to ensure fair value for shareholders, but neither fully resolves the tension between efficiency and equity.
The meeting introduces an additional parameter to the formula for the floor price i.e., the ‘adjusted book value’, as computed by an independent valuer. While the intent may be to give additional confidence to public shareholders that the offer price accurately reflects fair value, there is a good basis to argue that the existing regulations already address this, and the new insertion may add some incremental complexity. Furthermore, the determination of stock price on the basis of activities over a longer trail of time in the Volume-Weighted Average Price calculation method would help in better price discovery for both the acquirer and the target company.
Squeezing out minority shareholders occurs when an acquirer, after successfully delisting a company, seeks to buy out the remaining minority shares (up to 10%) to gain full control. This process ensures that the acquirer can consolidate ownership without minority shareholders holding out for higher prices. A transparent, legal framework for squeezing out minorities is crucial to balance the acquirer’s interests with fair compensation for minority shareholders, ensuring an equitable exit process in control buyouts. Such a framework would provide certainty for investors while protecting minority rights, complementing the existing delisting mechanisms.