Demerger & Reverse Merger

GROUP MEMBERS
NAMES
TANVI BIRJE TARKESH CHAVAN PRIYAM GAEKWAD SAGAR GARDAS ROHIT YADAV

ROLL NO.
04 10 15 19 60

What is Demerger
The expression Demerger is not expressly defined in the Companies Act, 1956. However, it is covered under the expression arrangement, as defined in clause (b) of Section 390 of Companies Act. Part of its undertaking is transferred to a newly formed company or an existing company and the remainder of the first companys division/undertaking continues to be vested in it; and Shares are allotted to certain of the first companys shareholders.

Why has Govt. Introduced the concept of Demerger?

Government of India has brought out the concept of demerger to tax to neutralise demerger, if it takes place by fulfilling the prescribed conditions. Perhaps, the govt. has been pressed by these investors to bring out such thing so that the Indian partner may get demerged from his foreign partner and the foreign partner may take back his investment. In other words, it is the main cause for tax neutralisation of demerger.

Reasons for Demerger

Corporate attempt to adjust to changing economic and political environment of the country. Strategy to enable others to exploit opportunity effectively to optimise returns when the parent company is unable to do so. To correct the previous investment decisions where the company moved into the operational field having no expertise or experience to run the show on a profitable basis. To help finance an acquisition. To realise capital gains from the assets acquired at the time when they were under performing and now no better performance, capital gain can be realised. To make financial and managerial resources available for developing other more profitable opportunities.

Procedure For Demerger

Demerger forms part of the scheme of arrangement or compromise within the ambit of Section 390, 391, 392, 393, 394 besides Sec 394A Demerger is most likely to attract the other provisions of the companies Act, envisaging reduction of Share capital comprising Sec. 100 to 105 The company is required to pass a special resolution which is subject to the confirmation by the court by making an application. The notice to the shareholders convening the meeting for the approval will usually consist of the following detail: (a) Full Details of the scheme (b) Effect of the scheme on shareholders, creditors employee (c) Details of the valuation Report

An application has to be made for approval of the High Court for the scheme of arrangement It is necessary that the Articles of Association should have the provision of reduction of its Share Capital in any way, and its MOA should provide for demerger, Division or split of the Company in any way. Demerger thus, resulting into reduction of Companies share capital would also require the Co. to amend its MOA.

Tax Aspect

Definition of demerger U/s Section 2(19AA) of the Income Tax Act: The definition of 'demerger' as given under Section 2(19AA) of the Income Tax Act is unduly restrictive, and subject to various conditions. Some of the conditions mentioned are: 1. The first condition is that all the property of the undertaking should become the property of the resulting company. 2. Conditions of Sec 391 to Sec.394 should be satisfied. 3. Similarly, all the liabilities relating to the undertaking immediately before the demerger should become the liabilities of the resulting company. 4. Explanation 2 provides that not only identified liabilities should be transferred to the resulting company, but also general borrowings in the ratio of the value of the assets transferred to the total value of the assets of the demerged company. 5. Assets and liabilities have to be transferred at book value.

Compliance With SEBI Regulations

The SEBI (Disclosure and Investor Protection) Guidelines do provide certain disclosures needed for protecting the investors. No specific guidelines are presently there. However, in SEBI Press Release 311-2003 dated December 17, 2003, it has been proposed by SEBI to enforce appropriate disclosures in case of demerger as in the case of amalgamation.

CASE STUDY

Demerger of Bajaj Auto.

Mr. Bajaj announced in New Delhi that there was a proposal for demerging Bajaj Auto into two companies, by spinning off a part of the investment portfolio. While one will be a pure automobile manufacturer, the other will be an investment company. The main objective of such a move is to prop up the depressed P-E (price to earnings) multiple and increasing share-holder value. The return on capital employed (ROCE) in fiscal year ended 2003 for Bajaj Auto was around 20 per cent, compared to 99.5 per cent of its rival, Hero Honda. In 2000-01, Bajaj Autos operating margin declined to 9.8 per cent, but powered by a growth in motorcycles bounced back to 16.8 per cent next fiscal, and closed fiscal year 2002-03 at 19 per cent.

CONT

A majority of the investments (75 per cent) Rs 2173.5 crores are fixed income investments, while the balance, Rs 735 crores are invested in equity shares and equity share based mutual funds. Of the fixed income investments, Rs 865 crores (about 30 per cent of total) investments are locked in government securities and bank deposits, and Rs 869 crores in debentures and bonds. Competitive Realities

-Equity analysts have never found the companys cash surplus attractive. Mr. Bajaj wanted to keep a war chest for fighting out the cut-throat competition in the motorcycle market, with its scooter business being in the doldrums.

In fact, it will need some funds to work on the scooter project to take on the fairly new entrant Honda Motorcycle and Scooter Indias products which have overtaken the staid Hamara Bajaj metal scooters.

REVERSE MERGER

What is Reverse Merger?

Reverse merger is an alternative method for small and medium size private companies to become public without going through the long and complicated process of traditional Initial Public Offering (IPO)

In private company shareholders may gain control of a public company by merging it in with their private company

In a reverse merger, a private company acquires a public entity by owning the majority shares of the public entity (usually 90% or more) At the close of merger, the private company takes on corporate structure of the public entity with its own company name, assets, officers, directors, management team and becomes public

Preparation for a Reverse Merger

Locate a Suitable Public Shell Comprehensive Business Plan Strong Management Team. Convincing Marketing Plan Product or Service Financial Audits Experienced Securities Counsel Have Public Company Experience

Advantages of Reverse Merger

Increased Valuation Capital Formation Acquisitions Incentives Financial Planning Reduced Costs Reduced Time Reduced Risk Reduced Management Time Reduced Business Requirements Reduced Dilution Reduced Underwriter Requirements Tax shelter to the private company

Disadvantages of Reverse Merger

Some reverse mergers come with unseen circumstances. Reverse stock splits are very common with reverse mergers and can significantly reduce the number of shares owned by stockholders. Many chief executive officers (CEOs) of privately traded companies have little or no experience running a publicly traded company. Many reverse mergers do little of what is promised and the company ends up trading on the OTC bulletin board and providing shareholders with little to no additional value or liquidity.

The Four Key Steps to a Successful Reverse Merger

STEP-1:REVIEW CLIENT GOALS AND CAPITAL STRUCTURE Stag Financials professionals will work with the client company's management to identify their short-term and long-term objectives and how they relate to the client's desire to "go public. In this step Stag Financial will help the client identify and resolve individual issues that may have an impact on how the reverse merger will be accepted in the financial marketplace.

Stag Financial will also help develop a proper capital structure engineered to facilitate the client's goals, including future fund raising activities, acquisition prospects, stock options and warrants, employee stock ownership programs (ESOPs), stock management issues, and so forth.

STEP 2- IDENTIFY A SUITABLE PUBLIC SHELL

Depending on the client's goals, strategies and budget, Stag Financial will help select an appropriate public shell vehicle. There are numerous types of public shells available. Some are trading, some are not trading. Some report to the Securities and Exchange Commission while others remain non-reporting. Some even have cash on hand and are looking for just the right private operating company to conduct a reverse merger.

STEP 3 - PREPARE AND FILE ALL REQUIRED DOCUMENTS

Unless the client wishes to reverse merge into a non-reporting public shell such as a NQB Pink Sheet shell company, then the client will need to obtain a proper audit conducted by a licensed public accounting firm.

Aside from the mandated public audit, conducting a reverse merger requires a number of legal documents, Board of Director resolutions, and state and federal corporate and securities filings. Stag Financial and its affiliated legal firms will help the client prepare and file all of the necessary paperwork to complete the reverse merger process.

STEP 4 - BECOME A PUBLIC ENTITY

Once all of the required legal documents have been executed, filed and seen through to completion, the client will successfully have taken over the public shell vehicle and transitioned itself into a publicly traded corporation.

EXAMPLES OF SUCCESSFUL REVERSE MERGERS

In 1970, Ted Turner acquired control of Rice Broadcasting (WJRJTV) in Atlanta, Georgia. Eventually this company became Turner Broadcasting and was acquired by Time/Warner and later merged with America Online. Ted Turner is now one of the wealthiest men in the world. In 1996, Muriel Siebert, the first woman to purchase a seat on the New York Stock Exchange (NYSE), reverse merged her discount brokerage house, Muriel Siebert & Co., into J. Michaels, Inc., a defunct, but publicly traded Brooklyn furniture company. The stock has since traded over $70 a share.

In 1999, Tony Robbins, best selling author of "Awakening the Giant Within", conducted a reverse merger with GHS, Inc. whose stock soared from $0.75 to over $12 a share.

Conclusion

To be successful in identifying reverse mergers, you must stay alert. By paying attention to the financial media, it is possible to find opportunities in potential reverse mergers. It is also wise to participate in opportunities that are trying to raise at least $500,000 and are expected to do sales of at least $20 million during the first year as a public company.

THANK YOU