It is usual to find non-compete provision in mergers and acquisitions deals. This provision imposes restriction on parties to carry on similar business. The provision prevents joint venture partners from competing in similar business as that of their joint venture entity. This restriction could be during the term of the venture and even after its termination. The provision could also prevent the selling shareholder who exits a company to not compete in the business of that company. Non-compete is valid in law for the duration of the joint venture but not thereafter. This is because the Indian contract law provides that any agreement in restraint of trade is void. It says that every agreement by which anyone is restrained from exercising a lawful profession, trade or business of any kind, is to that extent void. But there is an exception to this rule, i.e, when a business is sold with its goodwill. The seller in such a case could agree with the buyer to refrain from carrying on a similar business. Such refrain has to be within some agreed geographical limit. Depending on the nature of the business, the limit, so set, should appear reasonable to the court.
Therefore, when a business or shares in a company are sold, the parties usually agree to a non-compete for a certain period and for a certain agreed geographical limit. As a consideration for this non-compete arrangement, the seller is paid a non-compete fee by the acquirer. Thus, a seller is well within her right to agree to a non-compete and get a fee for it.
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This issue becomes contentious if only the selling shareholder gets the non-compete fee to the exclusion of other shareholders of the company. For instance, in a listed company which has both majority promoter shareholder and minority public shareholders, if the majority promoter decides to exit the company and agrees to a non-compete fee with the acquirer, only that exiting promoter is paid the fee. There is every chance that minority public shareholders could feel discriminated in such a situation.
Similarly, in a merger scheme, the promoter of the merging entity, in addition to getting shares in the merged entity, could also get a non-compete fee. In this situation too, the minority shareholders may feel discriminated. They would only get shares and won’t get any non-compete fee.
While the former case is well covered in the current Sebi Takeover Code, it is the latter where the jury is still out. The Takeover Code takes into account the non-compete fee paid to the selling promoter by the acquirer. This is done by adding the non-compete fee to the open offer price paid by the acquirer to the public shareholders. In this regard, the Takeover Code says that the price paid for shares of the target company shall include any price paid or agreed to be paid for the shares or voting rights in, or control over the target company, in any form whatsoever, whether stated in the agreement for acquisition of shares or in any incidental, contemporaneous or collateral agreement, whether termed as control premium or as non-compete fees or otherwise. The inclusion of any kind of payment made to the selling promoter in the open offer price ensures that public shareholders get similar monetary benefits. Interestingly, the erstwhile Takeover Code provided that non-compete fee only in excess of 25% of the open offer price will be added. In contrast, the current Takeover Code provides that any amount paid for non-compete fee will be added to the open offer price. This has made regulations more favourable for the public shareholders to get a better price for their shares in an acquisition or a takeover situation.
As is the case in the Takeover Code, it is now demanded of Sebi to review and amend its merger guidelines. The demand is to provide for a similar treatment for non-compete fee paid in a merger scheme. The suggestion is that either to not let the promoters get any non-compete fee or if any fee is paid to them, then public shareholders should also get that fee. There could be some merits in this suggestion. But what needs to be understood is that a takeover situation is different from a merger scheme. Unlike in a takeover, in merger schemes, non-compete fee provided in the scheme is approved by majority in number and three-fourths in value of the shareholders. Therefore, the non-compete fee paid to the promoters is approved by the shareholders. So the regulators must resist any temptation to interfere with seller’s legal right to such a fee, particularly, when the same has been approved by the shareholders. The regulators must realise that contracting parties should be free to decide on the non-compete fee. Any interference will be unwarranted and unfair. Similarity may be drawn to related party transactions (RPTs). In RPTs, Sebi does not regulate the value at which RPT must be done. That decision is left with the disinterested shareholders who approves the RPTs. Similar approach should be adopted for non-compete fee in merger schemes which also has the blessings of the shareholders.
The author is a partner with J Sagar Associates. Views are personal