Corporate Law Group2

8/8/2019 Corporate Law Group2

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Presented By

Swapnil Churi (M910)

Vinay Deshmukh (M914)

Prina Doshi (M917)

Anagh Mahajan (M931)Abhishek Mokal (M935)

Manali Pradhan (M943)

Gaurang Jardosh (P924)

Siddhi Prabhavale (P947)

PankajWarudkar (P960)

Buy Back, ESOPs and Sweat Equity

Regulations


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Section 77A, 77AA and 77B

Buy Back Shares


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Buy- Back of shares-Meaning

y Take back the equity shares from market or

shareholders by paying cash and reduce equity shares

available in the share market. It is also known as a

stock repurchase

y Cash is exchanged for a reduction in the number of

shares outstanding. The firm either retires the shares or

keeps them as treasury stock, available for re issuance


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Objectives

y Increase promoters holding

y Adjust or change the companys capital structure quickly

y

To increase EPS and net asset value per sharey To improve the various performance parameters like

EPS,DPS, operating cash flow per share, etc.

y

To thwart the attempts of a hostile takeover.y To pay surplus cash not required by business


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EFFECTS OF BUYBACK

y Effects On The Company

Shareholding Pattern Changes

Improvement in the Financial ratios of the

company

y Effects on the Shareholder

Tax Benefits

Higher Share Price


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Procedure for Buyback

Special/boardresolution

Publicannouncement

Letter of offerFiling with

SEBI & stockexchange

Date of opening of the offer cant be earlier than 7 days or later

than 30 days after the specified date

Buy back offer shall remain open for a period of not less than

15 days and not more than 30 days.

Company opting for buy back through the public offer or tender

offer shall open an escrow Account.


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Resources

y Free reserves

y Securities premium account

y Proceeds of any shares or other specified securities


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Conditions

y Maximum Buy back can be upto 25% of total paid up share

capital and free reserves.

y Debt equity ratio should not be more than 2:1 after buy back

y All the shares or other specified securities are fully paid up

y No default in complying with the provisions of filing of Annual

Return, Payment of Dividend, and form and contents of Annual

Accounts


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Disclosures in the explanatory statement

y The notice of the meeting at which special resolution is proposed

to be passed shall be accompanied by an explanatory statement

stating

- a full & complete disclosure of all material facts

- the necessity for the buy-back

- the class of security intended to be purchased

under the buy-back

- the amount to be invested under the buy-back

- the time-limit for completion of buy-back


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Sources for the purchase of Buy Back

y Existing security-holders

y The open market through

(i)book building process (ii) stock exchanges

y Odd lots

y Purchasing the securities issued to employees of the

company


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Filing ofDeclaration of solvency

y Done using form 4A

y Verified by an affidavit

y Signed by at least two directors of the company, one of

whom shall be the managing director


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Register of securities bought back

Company maintains a register of the securities/shares

bought with following particulars

a. Consideration paid for the securities bought-back

b. Date of cancellation of securities

c. Date of extinguishing & physically destroying of

securities


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Issue of further shares after Buy back

y Buy Back Should be completed within 12 months from the

date of passing the special resolution or Board resolution

y Such a company cant make any issue of the same kind of

securities


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Filing of return with regulator

y File return in form 4C, with Registrar & SEBI, within

30 days of buy back completion

y Unlisted company need not do so


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Prohibition

y A company shall not directly or indirectly purchase its

own shares or other specified securities -

(a) Through any subsidiary company including its own

subsidiary companies

(b) Through any investment company or group of

investment companies


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CASEOF SUCCESSFUL BUYBACK

GLAXOSMITHKLINEConsumer Healthcare Ltd.

y Sellers of Horlicks, Boost, Crocin, Iodex and many

others

y Made an open offer to buyback during March 2005

y Offered to buy 3.3 Mn

y At Rs 370/Share, not exceeding 123 Cr in value

y Represented 23.24% of free reserves


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REASONS FORBUYBACK

y Promoters holding would increase from 39.99% to

43.16%

y Had excess reserves with no major expansion plans

y Wanted to use its reserves instead of keeping it idley Felt share was undervalued

y FMCG industry in that period had limited growth

plans

y Thus Britannia,Godrej and HUL all came with

buyback plans


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SUCCESS OF BUYBACK

y Received more than double the required offers

(7.8 Mn)

y Bought back using proportional acceptance

method

Pre Buy backDec 04 Post Buy backDec 05

Net Worth(Rs Lacs) 599,35.17 47511.18

Return on Net Worth 13.82% 22.55%

Earning Per share(Rs) 16.12 25.48

Book value Per share(Rs) 116.65 96.62

P/E 20.50 24


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CASEOFUNSUCCESSFUL BUYBACK

INDIANRAYON

y An AV Birla Group Company into the garment

businessy Announced buyback in 1999

y Buyback of 25% equity share capital

y Price offered was in the range Rs 75-85

y Intended cash outflow Rs 127-144 Cr


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REASONS FORBUYBACK

y To increase promoters stake from 21.5% to 28.7%

y Working at below capacity and no major capex

plannedy Wanted to add value to share holders by returning

capital to them

y Cement business was hived off to Grasim

y Buyback would give investors an exit route


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LIMITED SUCCESS OF BUYBACK

y Could purchase only 11% of its outstanding shares as

against the 25% offered

y Hiked the price on offer to Rs. 85

y Market cap fell from 1397 Cr in 1999 to 455 Cr, 5

years later

y Share price plunged from Rs. 207 to Rs. 67

y Launched at wrong time- Co. was not doing well and

markets were crashing


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CONCLUSION

y Not all buybacks are successful

y The timing of the buyback is very crucial. If company

is not doing well then the buyback might not succeed

y Gives the market a signal that promoters believe in the

company

y The demand supply dynamics go in favour of the

company


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Section 81

Employee StockOption Scheme


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ESOPs - Definition

y Section 2(15A): Employee Stock Option means the

option given to the whole time directors, officers

or employees of a company, which gives such

directors, officers or employees the benefit or right

to purchase or subscribe at a future date, the

securities offered by the company at a pre

determined price


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Objectives

yAttracting critical skills

yEmployee feeling of ownership and commitment

yCreating additional wealth for employees

yA method to supplement social security benefits

yTo retain employees or groups apprehended of

high turnover

yTo enforce corporate governance


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Types of ESOPs

Employee Stock OptionScheme (ESOS)

Option to employeesto acquire shares onfuture date atpredetermined rate

Employees are free todispose of the sharessubject to lock-in-period if any

Generally exercise

price is lower than theprevalent marketprice.

Employee StockPurchase Plan (ESPP)

This is generally usedin listed companies

E

mployees are giventhe right to acquireshares of the companyimmediately, not at afuture date

Shares issued will besubject to lock-in-

period Generally exercise

price is lower than theprevalent market price

Share AppreciationRights (SAR)/ Phantom

Shares

No shares are offeredor allotted to theemployee

Employee is given theappreciation in thevalue of shares

between two specifieddates as an incentive orperformance bonus

It is linked to theperformance of thecompany as a whole, asreflected in its sharevalue


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Flexibilities in application of ESOPsy Stock Appreciation Rights: employees are given "Rights" to a particular number

of shares at the market price on the date of allotment of Rights. Shares are

physically not transferred in the names of employees nor do they give any money

to buy the shares

yThese rights are redeemable in instalments at regular intervals at the market priceprevailing on the date of the redemption. Employees are given the appreciation

benefit.

y Options to employees to buy shares at the average of the last six months market

price and offer soft loans from the company to buy these shares, These options

are given in instalments at intervals of one or two years. Thus, there is no lock in

period

y Offer the option of warrants which are converted into shares at a fixed price at the

option of the employee. In this, the warrants are converted into shares at far less

price than the market and this makes the scheme attractive.


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Eligibilityy He should be an Employee

y As per the definition of Employee given in the SEBIguidelines, it includes directors and whole time directors

y An employee who is a promoter or belongs to the promoter

group is not eligible to participate in ESOP

y Recently the SEBI has permitted the nominee directorsappointed by the financial institutions, banks, etc., on the

board of directors of the assisted companies to participate in

ESOP subject to the provisions of the contract or agreemententered in to between such director and the nominatinginstitution.


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Disqualification

y An employee who is a promoter or belongs to promoter

group

y A director who either by himself or through his relative or

through any body corporate, directly or indirectly holds

more than 10% of the outstanding equity shares of thecompany shall not be eligible to participate in the ESOS.

(Promoter is a person(s)

- who is in over all control of the company

- who is instrumental in the formation of the company- is named so in the offer document

Promoter group includes immediate relatives of the promoter i.e. spouse,parent, brother, sister or child of the person or of the spouse)


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Various Stages in ESOP Process

Grant

Issue of stock options to

employees underE

SOP Employees may be

required to pay upfrontamount

Vesting

process by which the

employee gets the rightto apply for and be issuedshares of the companyunder the optionsgranted to him

Upon vesting, theemployee gets anunfettered right to applyfor the issue of shares

Vesting Period

the period during which

the vesting of the optionsgranted to an employeetakes place

The SEBI guidelinesprovide that the vestingperiod shall not be lessthan one year from thedate of grant of options


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Stages Cntd..

Vesting Percentage

refers to that portion

of the total optionsgranted, which anemployee is eligible toexercise

Exercise Period

the time period after

vesting within whichthe employee shouldexercise his right toapply for the shares

Failing to do this, thevested options willlapse

Exercise

making of an

application to thecompany by anemployee togetherwith the requisiteamount, for issue ofshares against theoptions already vested


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ESOPs and Unlisted Companies

y

Issues Related To Unlisted Companys ESOP Schemey The main issue regarding the ESOP scheme in an unlisted

company is that how does the employee make money on hisshares?

y For this some sort of a liquidity event is needed. Liquidityevents could include:y

Initial Public Offery Acquisitiony Equity investmenty Buyback by the companyy Purchase by the promoters/founders

till shares are issued to him on exercise of the option

y SEBI Reform committee recommended that ESOP shares issuedby an unlisted company may be allowed to get listed after the IPOsubject to fulfilment of the following requirements:y Ratification of the resolution passed for issuance ofESOPy Disclosures in the offer document


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ESOPs and Listed Companiesy The procedure for formulating an ESOP scheme in a listed company

should be in accordance with the guidelines of SEBI

y SEBI (Employee Stock Option Scheme And Employee Stock PurchaseScheme) Guidelines, 1999 regulates the ESOP in Listed Companies.

y Compensation Committee

No ESOP can be offered by a listed company unless aCompensation Committee is constituted

Committee consist of majority of independent directorsy Duties:

y administer and supervise the scheme

y formulate the detailed terms and conditions of the schemey frame policies and system to ensure that there is no violation of SEBI (Insider

Trading) Regulations,1992 and SEBI (Prohibition of Fraudulent and UnfairTrade Practices) Regulation, 1995


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Shareholders Approvaly By way of Special Resolution in a general meeting

y A separate resolution in general meeting is required in case of grant ofoption To a subsidiary or a holding company

To an identified employees, during any one year, equals to or exceed 1% ofthe issued capital of the company at the time of grant of option.

y The next steps are: Exercise of Option

Allotment of Shares

Sale of Shares

Listing of ESOP

Shares arising out of ESOP shall be listed immediately upon exercise ofoption, in a recognized stock exchange where the securities of the companyare listed.


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ESOP Procedure - Flowchart

Drafting ofESOP Scheme

Consideration ofESOP Scheme by

Board & proposingconstitution ofCompensationCommittee (CC)

Consideration ofESOP Scheme in

EGM &

authorisation forConstitution ofCC.

Meeting ofCC determination of

eligibility criteria,exercise price, vesting

Period, etc.

Communicate Grant of options to

Employees

Acceptance ofGrant

Communicate Vesting period

Employees exercisingoptions forwarding

application toCC

Hold BM forallotment of Shares

Convey allotment toCC

Intimatingallotment toconcernedEmployee

Entry into Registerof Members

Reporting to: ROC

RBI, if applicable


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ESOPs

Advantages

Awareness of companysuccess

Employee commitment andsatisfaction

Spurs change Heightened decision

making

Encourages reengineering

Disadvantages

Stock markets are highlyvolatile

The difference between thefair value and the

discounted exercise pricehas to be treated as employeecompensation and it has to

be debited to P&L account

lock-in-period leads toblocking of funds.

ESOP leads to dilution in theshareholding percentage ofother shareholders includingthe promoter group.


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Successful Implementation

y Infosys ESOP Plany Under the plan, 600000 warrants were issued to the Infosys

Tech Ltd employee trust in Sept. 1994

y Warrants to be held in trust and transferred to selectedemployees form time to time

y Warrants were issued at Rs.0.50 each

y Entitled the holder to be issued one equity share of par value

of Rs. 5 each at a price of Rs.50y Lock-in period of five years form the date of issue.

y All warrants were converted into shares by Sept. 1999


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Case: ESOPs for Independent & Nominee

Directors

y Mr. Kranti Sinha Obtained L&T shares under ESOPs

y According to SEBI guidelines, ESOPs are not meant for

Independent Directors & Nominee Directorsy It is morally & ethically not correct

y Alternate ways to reward nominee directors

y This is the first instance where an LIC nominee-director has

acted against the instruction of its employer and acceptedESOPs.

y This opened the floodgates of similar complaints


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Case: Sale of shares under ESOPs to

other Company

y Dalmia group promoted firm GHCL Employees Stock Option

Trust alleged mismanagement of its funds during transaction

of 2,000,000 shares under ESOPs

y Trust paid Rs. 10.48 crores as demanded

y But shares were not transferred

y IIFL sold those shares to clear dues

y As per SEBI guidelines, selling shares to other companies toclear dues is prohibited

y IIFL sold 870,000 shares in 2008


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Section 79A

Sweat Equity


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Definition

y Equity acquired by a company's executives on favourable

terms, to reflect the value the executives have added and will

continue to add to the company.

y Extra percentage of a firm's common stock (ordinary shares)

allocated to the senior executives (over and above their

current shareholdings) as an additional motivation for

continuing hard work for the firm's success.

y The equity that is created in a company or some other asset

as a direct result of hard work by the owner(s).


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y Sweat equity shares by definition could be issued only to the

employees or directors of the company incorporated under the

Companies Act, 1956

y It could also be issued to the directors or employees of the foreign

subsidiary of an Indian incorporated company a foreign

subsidiary is incorporated outside India

y While the section mentions only employees or directors the SEBI

regulations also mentions issue of sweat equity to promoters.

To Whom Sweat Equity Could Be Issued


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The Consideration for Issue of Sweat Equity

The allotment of sweat equity should be at a discount or

consideration otherwise than cash.

Sweat equity could be issued in consideration of providing know-how

or making available rights in the nature of intellectual property or for

value addition contributed by such employee or director.


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Provisions In Companies Act On Sweat Equity

y

Section 79A of theC

ompanies Act, 1956 authorizes the issue of sweatequity shares subject to certain conditions.

y Section 79A:

(1) Notwithstanding anything contained in section 79, a company may issue sweat equity

shares of a class of shares already issued if the following conditions are fulfilled,

namely-

a. the issue of sweat equity shares is authorized by a special resolution passedby the company in the general meeting;

b. the resolution specifies the number of shares, current market price,

consideration, if any, and the class or classes of directors or employees to

whom such equity shares are to be issued;

c. not less than one year has, at the date of the issue, elapsed since the date on

which the company was entitled to commence business;

d. the sweat equity shares of a company, whose equity shares are listed on a

recognized stock exchange, are issued in accordance with the regulations

made by the SEBI in this behalf:


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Section 79A Contd..y Provided that in the case of a company whose equity shares are not listed on any

recognized stock exchange, the sweat equity shares are issued in accordance

with the guidelines as may be prescribed.

(2) All the limitations, restrictions and provisions relating to equity shares shall be

applicable to such sweat equity shares issued under sub-section (1).


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Price at Which Sweat Equity Could be Offered

The SEBI regulations state that the price shall not be less than the higher of the following-

y The average of the weekly high and low of the closing prices of the related equity shares

during last six months preceding the relevant date;

OR

y The average of the weekly high and low f the closing prices of the related equity sharesduring the two weeks preceding the relevant date.

The regulations for unlisted companies provide that the price should be fair price

calculated by an independent valuer and separate consideration is given for issue

of sweat equity in case of consideration other than cash


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Class Of Shares Which Could Be Issued As Sweat Equity

y Sweat equity shares can issued only of a class of shares

already issued

y It must be only an equity shares and not a preference

share


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General Principles In Issue Of Sweat Equity

1. The issue shall be authorized by a special resolution.

2. The issue of sweat equity shares by a listed company shall be in accordancewith the SEBI (Issue of SweatEquity shares)Regulations, 2002.

3. In case of an unlisted company, issue of sweat equity shares shall be subject

to UnlistedCompanies (Issue of Sweat Equity shares) Rules, 2003.

4. Sweat equity shares is treated as any ordinary equity shares issued by thecompany in all respects except in certain cases the issue is for considerationother than cash.

5. The voting rights and rights as to dividend etc. will be pari passu with theexisting class of equity shares.

6. In terms f section 77A (5) (d) it is possible for the company to buy backsweat equity issued to employees of the company pursuant, inter alia, to ascheme of sweat equity.


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Sweat Equity Shares And Unlisted Companies

y Under The Proviso To Clause (D) To Sub-section (1) Of Section 79A, It Is Provided That In

The Case Of A Company Whose Equity Shares Are Not Listed On Any Recognized StockExchange, The Sweat Equity Shares Should Be Issued In Accordance With The Guidelines

As May Be Prescribed.

y From 2003, Rules for Unlisted Companies (Issue Of Sweat Equity Shares)

a. ToWhom Sweat Equity Could Be Issued

b. Price AtWhich Sweat Equity Could Be Issuedc. Authorisation By Special Resolution

d. Restriction on Issue of Sweat Equity Shares

y for more than 15% of total paid up equity share capital in a year or

y shares of the value of 5 crores of rupees,

e. Register of Sharesf. Lock-in of Sweat Equity Shares

g. Certificate from Auditors


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Sweat Equity Shares And Listed Comapnies

y 79A (1)(d), sweat equity shares in cases of companies listed on a recognized stock

exchange must be in accordance with the regulations made by the SE

BI.

y SEBI has issued the SEBI (Issue of Sweat Equity Shares) Regulations, 2002, laying down

the guidelines for the issue of sweat equity shares by listed companies.

a. Applicability

b. ToWhom SweatE

quity Could Be Issuedc. Pricing of Sweat Equity Shares

d. Valuation of Intellectual Property

e. Authorisation By Special Resolution

f. Promoters & Sweat Equity Shares

y It is not clear whether sweat equity could be issued to promoters as defined in these Regulations, unless

such promoter is also either an employee or a director.y Promoters could also be shareholders.

y in case of issue of sweat equity to promoters both the requirement of special resolution (at which the

promoter also could vote) as also an ordinary resolution (wherein the promoter do not participate) shall

be passed.

y In addition the resolution could be passed by postal ballot.

ISSUE OF

SWEAT EQUITY SHARESTO PROMOTERS- SOME ISSUES


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Sweat Equity

Advantages Highly efficacious in extracting the

employees efficiency

Promotional in nature as it a meansof receiving shares withoutspending money

Cost efficient for company as itcan save on the employees to begiven salary

Receiving of sweat equity is a longterm investment

More income to the employees

Receiving the right to participatein the companys management foremployees

Disadvantages More of dilution of power as share

is being issued

Can lead to inefficiency of employees when the feeling of being in power creeps in

Can also lead to irregularity inincome for the employees

Consideration in the nature of share can be heavy on otherwiselow income employees

During recession or liquidation,the sweat equity share holders may

face larger troubles as their effortgo non-benefitted to them.

Excessive issue of sweat equityshares can also lead toovercapitalisation which in turnwould be heavy for the company


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IPL - Case

y The Indian Premier League (IPL) has been mired in controversies the RendezvousConsortium winning the Kochi IPL franchise for $ 333 million.

y The IPL chairman and commissioner Lalit Modi revealed the shareholder ownership of the Kochi franchisee last week.

y Mr. Modi claimed that Rendezvous Sports World Pvt. Ltd., a member of theconsortium, had received 25% free equity, of which Ms. Sunanda Pushkar reportedlyreceived 18%, valued at nearly Rs 70 crore.

y This became a political issue for Member of Parliament Shashi Tharoor due to hisrelationship with Ms. Pushkar and Mr. Tharoor subsequently resigned as a cabinetminister.

y A critical question became Ms. Pushkars sweat equity. Mr. Tharoor stated thatRendezvous had issued sweat equity to its associates, ie. Ms. Pushkar in lieu of asalary as this is common practice across the world for start up ventures .

C D b /M l i l Di i


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Current Debate/Multiple Discrepancies

y Sweat equity shares can only be issued a year after a company has been incorporated; ithas not been a year since Rendezvous has been incorporated.

y Sweat equity shares may not exceed 15% of the share capital and may not exceed Rs. 5crores in value; Ms. Pushkar appears to have received 18% equity at a valuation of Rs. 70crore

y In order to go above the shareholding percentage and valuation ceilings, prior

government approval must be obtained; there appears to be no prior governmentapproval.

y Issue of sweat equity needs to be passed by a special resolution; no confirmation thatsuch a resolution was passed.

y

In addition, pursuant to section 77A of theC

ompanies Act, there are specific regulationsregarding the buyback of shares including where the company must get the resources forthe buy back and objectives, conditions and procedures for the buy back of shares. All ofthese provisions must be complied with in order for the company to buy back Ms.Pushkars shares.


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Sweat Equity

y There is a long debate going on in relation of the issuance

of sweat equity by the listed and unlisted companies

y At present the issuance by type of companies are governed

by different regulations

y It has been advised that to bring the uniformity in the law

and to make it simpler for the companies, both of them

should be governed by similar laws


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THANK YOU

Corporate Law Group2

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