SEBI ALLOWS PREFERENTIAL CLAUSES IN SHARE PURCHASE PACTS

THE DECISION

SEBI has provided more flexibility to entities entering into Merger & Acquisition (M&A) deals, allowing them to include Preferential Clauses like "right of first refusal, tag-along and drag-along' in their Share Purchase Agreements.

The regulator rescinded a March 1, 2000, notification that did not allow put and call option arrangements or recognize the right of first refusal. The right of refusal gives one of the parties to a transaction the first option to buy out its partner when the latter wants to exit at a later stage. Similarly, tag-along and drag-along clauses allow a partner to join another party in cases like further acquisition or sell his holdings.

However, the regulator has allowed these facilities subject to various conditions which include the seller should hold the ownership of the securities for at least a one-year period from the date of the contract, the pricing of the securities should be as per all the extant laws, and finally, the contract can be settled only after actual delivery of the securities.

The Market Watchdog noted that the changes would not affect any contract which has been entered into prior to the date of this notification.

THE EFFECT

The decision will provide a fillip to M&A deals and give the partners easier exit options.

The changes will also protect the interests of foreign investors, particularly private equity players who generally insist on the inclusion such clauses in the deals.

UNDERSTANDING THE JARGON

Put Option: Under this option, an investor has the right to sell his/her shares back to the company or to its promoter at a price that has been fixed before.

Call Option: Under this option, an investor has the right to buy shares held by the company or promoter at a pre-determined price.

Right of first refusal: Right of first refusal, is the right of a Person (Investor) or Company to purchase something before the offering is made available to others. If an Investor plans to exit the Company, it is obliged to give the Promoters or existing Shareholders, an opportunity to buy the Shares before selling the same to a third party.

Tag-along rights: This gives a minority shareholder the right to sell his/her shares of a company on similar terms as those of the majority shareholders.

Drag-along rights: This gives the majority shareholders a right to force minority shareholders to come together to off-load their shares on similar terms during the sale of a company.