Govt wants to scrap cap on merger premium

Written by Ronojoy Banerjee | Ronojoy Banerjee | New Delhi | Updated: Jun 29 2011, 05:44am hrs
Pricing of control premium in M&As could become fully market-determined instead of being set by the market regulator at a maximum of 25%. The government is considering removing the cap on premia paid to promoters of the target company as part of the new takeover regulations. This means the quantum of the premium in the form of a non-compete fee can be decided by the negotiating parties themselves.

The changes could be part of Sebis new Takeover Code guidelines to be announced shortly. They could also benefit minority shareholders if the premium is factored into the negotiated share price.

Top sources told FE that the government has taken a favourable view in letting non-compete fees to be decided solely by the two negotiating parties and conveyed to the market regulator.

The basis of the cap was the governments reckoning that negotiating parties deliberately keep the open offer price low and compensate the target companys promoters through the premium which is paid in lieu of an assurance by the promoter not to enter the same line of business. This hurts minority shareholders since they are neither adequately compensated at the time of the open offer nor do they get a share of the non-compete fee.

Currently, Sebis takeover code stipulates a 25% cap on non-compete fee.

The issue had also come up in the context of the Cairn-Vedanta deal which is yet to be given a go-ahead by the government. As per the original version of the deal, the UK-based promoters Cairn Energy were to get R405 per share and minority shareholders, R355.

The additional Rs 50 per share was to be paid by Vedanta as non-compete fee. The non-compete free component of the deal was, however, abandoned on Monday when a revised deal was announced.

The current 25% cap on non-compete fee is becoming redundant. This is because the two negotiating parties can best decide the matter among themselves. The issue is going to be taken up at the board meeting (of Sebi), a senior government official told FE. He added that Sebi board members are also positively disposed towards scrapping the non-compete fee. Sebi's board meeting was scheduled for June 30 but it has been postponed since chairman UK Sinha is on an official visit to the US.

In July 2010, a committee headed by C Achuthan, former presiding officer of Securities Appellate Tribunal had suggested abolishing non-compete fee in the interests of minority shareholders. The clause for non-compete fee was introduced in Takeover Regulations to curb the practice of paying large non-compete payments outside the share price. The Achuthan panel noted that every shareholder ought to be treated equally and proposed that instead of non-compete fees being paid to a section of the shareholders, it must be taken into account at the negotiated price of the shares so that the minority shareholders also gain from it.

At present, there is a provision in the law as per which promoters of the target company can ask for up to 25% of the deal size from the acquirer as a non-compete fee; it is, however, not mandatory. But in certain cases, Sebi can intervene and direct an acquirer to pay non-compete fees as it happened in the case of Tata Teas acquisition of shares in Mount Everest in 2007.

Executive director and head (private equity group) of KPMG Girish Vanvari said the government's move would be very beneficial to the minority shareholders. If there is no need for a non-compete fee then the pricing of the open offer would be more realistic and higher, he said. According to Vanvari, open offer price is purposely kept low which is compensated for in the non-compete fees that is paid to promoters of the target company.

Head of research, SMC Global Jagannadham Thunuguntla said that since the Indian market was still in the developing stage, non-compete fee should be completely abolished. In the West, there are markets where non-compete fee is included in the extant laws. But those jurisdictions have proper agencies to decide whether certain type of business is competing or not, he said.

Managing director of a Delhi-based private equity firm Maple Advisors Pankaj Karna said that just like a deal, the non-compete fee is also a commercial matter which should be left entirely to the negotiating parties. It is a step in the right direction. If there is a non-compete fee the minority shareholders do not get anything. Even they invest money in the business, Karna said. He also said that deal making had become very complex where in certain cases non-compete fees was required while in others it was not.