Amendment to Companies Merger Rules

Background

The trend of ‘reverse flipping’ has been picking up in India for many startups in recent times. Some of the reasons for such trend are the resilience and growth of the country’s IPO market which provides investors with a viable exit strategy and good valuation, and government support for the startup ecosystem.

Considering the above and to ease up such merger process, the government has notified the Companies (Compromises, Arrangements and Amalgamations) Amendment Rules, 2024 (‘the Amendment’) with the objective of easing ‘reverse flipping’ norms in India. The Amendment shall be effective from 17 September 2024.

What is reverse flipping?

Before getting into the details of the Amendment, let us understand what is ‘reverse flipping’. Few Indian startups had set up their holding company outside India like in the US or Singapore while their business operations were predominantly in India. Earlier, such structures were created with the intention to globalise the company, list in the overseas jurisdiction, and take advantage of tax and regulatory frameworks perceived to be favourable in those jurisdictions.

But with the ease of regulations in India and better valuation in the IPO market, the trend has changed and hence the startups are considering moving their holding companies back to India. Few recent examples are PhonePe, Groww and Pine Labs.

How reverse flipping is achieved?

Reverse flipping can broadly be achieved by the following options:

• The shareholders swapping their shares of the foreign holding company against the shares of the Indian subsidiary company; or
• Merger of the foreign holding company with its Indian subsidiary.

What is the amendment?

The pre-amended Rule 25A of the Companies (Compromises, Arrangements and Amalgamations) Rules, 2016 permits foreign companies to merge with an Indian company by obtaining prior approval of the Reserve Bank of India (RBI) and the National Company Law Tribunal (NCLT).

The Amendment has introduced Rule 25A(5) to the Merger Rules, permitting the merger or amalgamation of a foreign company being a holding company into an Indian company being wholly owned subsidiary to be undertaken through the fast track merger scheme as per Section 233 of the Companies Act, 2013 (the Companies Act) read with Rule 25 of the Merger Rules. A fast track merger is approved by the Regional Director (RD) and does not require an approval from the NCLT. This would reduce the overall timeline for such merger.

The conditions laid down in the Rule 25A(5) are as follows:

1. Both the transferor and transferee companies shall obtain prior approval of the RBI.
2. The transferee Indian company shall comply with Section 233.
3. The transferee Indian company shall make an application to the RD under Section 233 and Rule 25.
4. If the foreign company is incorporated in a country sharing a land border with India, a declaration must be provided confirming FEMA approval at the time of filing with the RD.

FEMA Regulations

It is imperative to note that the Foreign Exchange Management (Cross Border Merger) Regulations, 2018 (‘FEM Regulations’), covers merger of foreign company with an Indian company or vice versa. It provides that if the cross border merger is in accordance with the said regulations then it shall be deemed to have prior approval of the RBI as required under Rule 25A of the Merger Rules.

Summary of approval requirements under the Companies Act and FEMA Regulations

The below table summarizes the approval requirements under the Companies Act and the Merger Rules vis-à-vis FEMA Regulations:

Kretha Sphere Comments

Given the Government’s impetus on ease of doing business and promote startups in India, the Amendment under the Merger Rules is a welcome move. However, the Government / RBI needs to provide clarity on the below aspects:

1. A question may arise if the regulations regarding deemed approval from RBI will be applicable in case of merger involving foreign holding company under fast track route as well, if compliant as per the FEM Regulations. In our view, a fast track merger may not be covered within the purview of the deemed approval from RBI under the FEM Regulations since the RD approval process is not specifically provided under the said Regulations and if the cross border merger is carried out with the RD approval it may not strictly be compliant with the FEM Regulations.

However, a contrary view is possible that the deemed approval from RBI shall be applicable for the fast track route as well under the FEM Regulations since the FEM Regulations refer to Rule 25A and the new sub Rule has been inserted as part of the said Rule.

RBI clarification is expected to provide clarity in this regard.

2. While the Amendment had been brought to bring ease in reverse flipping scenario, hence provided only for such cross border merger involving merger of foreign holding company with its Indian wholly owned subsidiary company. However, the said Rules can be made applicable to a cross border merger involving merger of a foreign wholly owned subsidiary company with its Indian holding company. Extension of the Rules to such cases will ease the timeline for Indian MNCs in implementing the merger of their foreign wholly owned subsidiary.

1. Small company means a company, other than a public company, having paid-up share capital of less than INR 4,00,00,000 or turnover of less than INR 40,00,00,000. ↩︎