Shares Against Non-Cash Consideration?
The FIPB’s 2009 review document for promised that: “Issues of shares for other than cash consideration require a much more deeper look and probably with their increasing numbers, some objective norms would have to be evolved soon.” Last month, the DIPP delivered on that promise.
A Department of Industrial Policy and Promotion or DIPP discussion paper has proposed to allow the issue of shares for say imported machinery or franchisee rights or other such non-cash consideration. Isha Dalal has more.
Under the current FDI regime, shares can be issued to foreign investors in exchange for - cash, external commercial borrowings or as royalty payments.
And now, other forms of consideration might be allowed too, says a Department of Industrial Policy & Promotion or DIPP discussion paper .
Last year, 7% – that’s 21 of 300 cases before the FIPB were related to such share issues.
Kerns Aero Products was allowed to issue shares against machinery imports, at Quattro BPO it was sweat equity, Actis Biologics paid for technology transfers in shares and GIA India laboratory issued shares for the payment of rent. But, the FIPB did not allow for the issue of shares against trade payables, completely assembled electronics or as an arbitration award.
Akash Gupt, Partner, PwC says, "The government had been granting approvals on certain basis, on a case to case basis. But they have been rejecting also. So there are no prescribed parameters or defined guidelines based on which the government could consider or not consider these proposals."
D Muthukumaran, Head-Group Corporate Finance, Aditya Birla Group says, "Start-up companies often have this difficulty for funding and certain large capital imports, although usually supplier will seek cash payments, it is possible for some of the start ups and some smaller companies, if there is an enabling provision to go and raise this possibility and seek allotment of shares against receiving such goods or receiving such services."
Now, the DIPP discussion paper proposes formalizing the list of acceptable cases.
That is - the issue of shares against tangible assets like capital goods, machinery equipment and even raw materials is proposed to be allowed with government approval.
That’s because all such imports are made in accordance with the government’s Exim Policy, and are regulated by customs authorities
Against services too, the issue of shares is proposed to be allowed with certain safeguards—such as, compliance with FEMA, the service fee being in accordance with the service-fee agreement, obtaining an auditor’s certificate and obtaining RBI approval.
D Muthukumaran says, "The value of goods and services that is being received is actually determinable as per the provisions of the law. On the other side, you also need the value of the shares being allotted. Again there are detailed regulations regardless of this transaction—for any transaction, there are detailed guidelines of how to value the shares of companies. So if you can follow these two valuation guidelines, I see no problem in implementing this policy."
But that’s not the case for intangible assets, like franchisee rights or extraordinary payments. The discussion paper says that the fair value of such assets is difficult to determine, since there are no widely accepted valuation norms
PR Ramesh, Head-Audit, Deloitte says, "There are valuation methodologies which capture the value of intangibles but all of it gets into future projections. That’s one part of it. Secondly when you are actually issuing shares in exchange for intangibles, you are dealing with two valuations. You’re dealing with the valuation of shares, and you’re dealing with the valuation of intangibles. So the subjectivity gets multiplied in a way in these sorts of transactions as opposed to when you’re settling the valuation of intangibles in cash."
D Muthukumaran says, "I think there is some merit in suspecting the vulnerability to misuse of intangibles. And the discussion paper itself concludes by saying that [gfx in] the balance of convenience may lie in not considering such cases. So it appears and I would be surprised if intangibles and extraordinary items are considered for these purposes [gfx out] as far as intangibles are concerned, even if the policy doesn’t allow, if there is a meritorious cases, it is always possible for the applicant to go to the RBI or the government and take specific approval just like the way they are doing for intangibles today."
But if intangibles are allowed, can regulatory safeguards be put in place?
Akash Gupt, Partner, PwC says, "When you are looking at remitting money outside of India, you would go to your authorized dealer. The authorized dealer by law, is under obligation to verify the bonafide of the transaction and there are various ways in which the authorized dealer can verify the bonafide—he can take auditor’s certificate, Chartered Accountant’s certificate, certificate from certified engineers—so anything which satisfies him that this remittance is bonafide, he would then allow the remittance. If a similar kind of mechanism, a framework could be built in to verify the bonafide of the transaction, then whether you make a remittance against it or whether you issue shares against it will become irrelevant."
PR Ramesh says, "The various elements in the infrastructure, one is having accredited valuers, the second is having regulatory oversight on such valuers, third is having a deep market where one can independently determine price for such transactions and so on. There could be checks and balances in terms of having multiple levels of valuation or multiple valuers… that may mitigate the problem but it does not eliminate the problem."
Experts have suggested that the other problem with allowing the issue of shares against intangibles could be potential misuse by promoters who could use it as a means to offshore their stakes in companies— but remember, the DIPP has emphasized that any such allotment of shares would be subject to government approval, and therefore liable to scrutiny by the FIPB. Considering that the issue of shares for non-cash consideration is already being approved or denied on a case by case basis, it seems that misuse might not be a strong enough concern to prevent this proposed policy from becoming law.
In Mumbai, Isha Dalal