DEMERGER

Steps to be taken for giving effect to a demerger under the relevant provisions of Companies Act, 2013

Demerger comes under the diverse head of corporate restructuring and comprises of hiving-off a
business of a company through a process that is court driven. Demerger can be referred to as separation
of one or more unit of a company or an undertaking and transferring the same to a new company totally
different and separate from the original one. Demerger id usually done to promote specialization and
helps the company to expand its business in a very systematic manner. It leads to specific division or
unit to grow and at the same time helps shareholders as shareholders get better opportunities to be a
part of company meetings and decision making processes. Both the companies: one proposing
demerger and the other resultant company gain from a demerger.

Information Technology (IT) Act, 1961 defines Demerger as follows under Section 2 (19AA):

“Demerger, in relation to companies, means the transfer, pursuant to a scheme of arrangement under
sections 391 to 394 of the Companies Act, 1956 (1 of 1956), by a demerged company of its one or more
undertakings to any resulting company.”

There are three different ways as to how demerger can be done and processed:

a) Demerger through an agreement between promoters of both the companies; or

b) Demerger as under Section 391 of Companies Act, 1956: through a scheme of arrangement for which
approval of the Court is needed and taken; or

c) Demerger under voluntary winding up and power of the liquidator.

Section 230-240 i.e. Chapter XV of Companies Act, 2013 entails corporate restructuring, mergers and
amalgamations, takeovers, cross border merges and demergers. The substantive part of demergers is
dealt with under the above mentioned chapter of Companies Act, 2013 and the procedural intricacies
involve making application to National Company Law Tribunal etc and hence, dealt in with under NCLT
rules.

Section 232 specifically deals with mergers and amalgamations and demergers.

Compromise or arrangement includes `demerger’

Rule 15.31 of the Rules made under Chapter XV states that “ For the purpose of Chapter XV of the Act,
`demerger’ in relation to companies means transfer, pursuant to scheme of arrangement by a
‘demerged company’ of its one or more undertakings to any ‘resulting company’ in such a manner as
provided in section 2(19AA) of the Income Tax Act, 1961, subject to fulfilling the conditions stipulated in
section 2(19AA) of the Income Tax Act and shares have been allotted by the ‘resulting company’ to the
share holders of the .demerged company’ against the transfer of assets and liabilities. (2) For the
purpose of the compromise in the nature of ‘demerger’ till the Accounting Standards is prescribed for
the purpose of ‘demerger’, the Accounting Treatment shall be in accordance with the conditions
stipulated in section 2(19AA) of the Income Tax Act, 1961 and

(i) in the books of the ‘demerged company’:-

 (a) Assets and liabilities shall be transferred at the same value appearing in the books, without
considering any revaluation or writing off of assets carried out during the preceding two financial years;
and

(b) The difference between the value of assets and liabilities shall be credited to capital reserve or
debited to good will.

(ii) In the books of ‘resulting company’:-

(a) Assets and liabilities of ‘demerged company’ transferred shall be recorded at the same value
appearing in the books of the ‘demerged company’ without considering any revaluation or writing off of
assets carried out during the preceding two financial years;

(b) Shares issued shall be credited to the share capital account; and

(c) The excess or deficit, if any, remaining after recording the aforesaid entries shall be credited to
capital reserve or debited to good will as the case may be.

A certificate from a Chartered Accountant is to be submitted to the Tribunal to the effect that both
‘demerged company’ and ‘resulting company’ have complied with conditions as above and accounting
treatment prescribed in this rule.”

Here in this case the type of merger in consideration is “PARTIAL DEMERGER” where a
part/department of an undertaking/division of an existing company is separated and transferred to
new company. Parent or Original Company remains in existence. That is, in our case XYZ Ltd. will remain
in existence even after demerging its ketchup business and giving the same to ABC Limited.

DEMERGER CHECKLIST/STEPS TO DEMERGER:

Generally the steps below mentioned are to be taken care of in a demerger process:

1. Preparation of the draft scheme of Demerger

2. Preparation the valuation report for the purposes of Shares Exchange Ratio

3. Obtaining fairness opinion from merchant banker on the valuation report (clause 24 of the listing
agreement)

4. Informing the Stock Exchanges for holding Board Meeting for approving the Scheme of arrangement

5. Holding Board Meeting for taking note of the valuation report and share exchange ratio, draft scheme
of amalgamation and authorizing someone to sign all the application, petition, affidavits etc. on behalf
of the company.

6. Filing draft Scheme of arrangement with the Stock Exchanges at least a month before presenting it to
the Court (clause 24 of the listing agreement) along with auditor's certificate confirming the compliance
of AS-14 and other related documents.

7. Filing of application before the Hon'ble High Court under section 391 of the Act for
convening/dispensing with the meetings of shareholders and creditors of the applicant companies
8. Whether joint application/petition (ie by all the companies together falling under jurisdiction of one
High Court) possible? - Yes, there is no restriction.

9. Order of the High Court for convening of the meetings of the shareholders/creditors under Rule 69 of
the Company (Court) Rules, 1959 and appointment of Chairman

10. Finalizing the draft notice of meetings of the creditors/shareholders in Form 36 and advertisement
of the notice of the meeting in Form 38

11. Getting the notice of the meeting approved from the Chairman appointed by the Court & Registrar
of the High Court

12. Getting the explanatory statement approved from the Chairman & Registrar of the High Court. (In
case of listed company, explanatory statement should also comply with the Listing agreement)

13. Getting notices along with the explanatory statement printed

14. Sending the notice (Form 36) individually to the shareholders / creditors by the Chairman or under
the name of the Chairman by the Company within 21 clear days of the holding of the General Meeting
[along with copy of the Scheme, Explanation Statement, Form of Proxy (Form37) and also by way of
advertisement in two newspapers, one in English and other in vernacular language circulating in the
area where registered office of the Company is situated]

15. Giving advertisement in the newspaper at least 21 clear days before the date of the meeting
(Advertisement in Form 38)

16. Chairman to file affidavit stating that the directions regarding the issue of notice of advertisement &
dispatch of notices have been complied with (at least 7 days before the date of the meeting)

17. Convening meetings of the shareholders/creditors - Pass the resolution with requisite majority and
arrange for filing of Chairman's Report as per directions of the Court.

18. Filing petition for obtaining sanction of the Court for the scheme along with all Annexures at the
High Court for confirming compromise/arrangement (Form 40) (within 7 days of filing report)

19. Publication in the newspapers of the notice of petition

20. Following up with the Regional Directorate(RD),Registrar of Companies ( ROC) and Official
Liquidator(OL) for submitting their reports that affairs of the Transferor Company and Transferee
Company are not prejudicial to the interest of the members or to public interest

21. Ensuring that RD and OL submit the report with the High Court before the final date of hearing as
per guidelines by MCA.

22. Filing certified true copy of the order within 30 days with the Registrar of Companies

23. Annexing copy of the order of every copy of the Memorandum of the Company

COMPLIANCES RELATING TO DEMERGER:

1. Resulting Companies to submit the Corporate Action Forms to depositories and pay fee for the same
2. Printing of share certificates, cover letter, envelops and Dispatch of Share certificates or demat credit
of equity shares of the resulting companies.

3. Dispatching share certificate

4. Send intimation to the shareholders of each of the resulting companies regarding the corporate
Action

5. Application to Stock exchange, attaching dispatch certificate/demat credit certificate and copy of
advertisement, for trading permission

6. Publication of the Advertisement (as per Schedule 28 of SEBI DIP Guidelines) in one English daily,
Hindi Daily and Regional Daily

7. Trading of shares at Stock Exchange

Thereby, in the present case as mentioned, XYZ Limited will have to take care of all these above
mentioned steps so as to give effect to a perfectly legal demerger in favor of ABC Limited with regard to
Ketchup industry. All of these steps should be carried on and taken care of without a glitch so as to avoid
legal repercussions, if any.