Sebi allows preferential clauses in share purchase pacts

Providing more flexibility to entities entering into M&A deals, market regulator Sebi today allowed them to include preferential clauses like "right of first refusal, tag-along and drag-along" in their share purchase agreements.

Right of refusal gives one of the parties in an M&A deal the first option to buyout its partner in the event of the latter wishing to exit from the agreement at a later stage.

Tag-along and drag-along clauses allow one of the partners to join the other party in cases like further acquisition or sell out deals.

Such rights to the parties entering into M&A deals are also covered under 'put and call' options, which allow one party to sell or buy the securities or assets involved in a transaction.

A notification was issued by the Securities and Exchange Board of India (Sebi) today for use of such clauses in share purchase agreements by bringing changes to the Securities Contracts (Regulation) Act (SCRA).

These changes are likely to help boost the interest of foreign investors, who tend to prefer such clauses in their deals. However, the amendments would be effective with prospectively and not to the deals already having taken place.

The demand for allowing such clauses has been gaining ground for quite some time, as certain high-profile merger and acquisition deals, including the Diageo-United Spririts deal and Cairn-Vedanta deal, had to face regulatory hurdles amid lack of clarity on regulations on such clauses.

The government recently cleared a proposal to amend the SCRA regulations for allowing put and call options as well as some other provisions to give special rights to investors.

Such options in shareholder agreements give the investor an option to either sell the shares (put option), or to buy additional shares (call option) at a future date.

"... Contracts for pre-emption including right of first refusal, or tag-along or drag-along rights contained in shareholders agreements or articles of association of companies or other body corporate," have been allowed in share purchase agreements, according to Sebi notification today.

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

Inclusion of these provisions would help in removing ambiguity and attract investors, especially overseas entities, many of which insist on such clauses while exiting at a later stage.

Contracts in shareholders agreements or articles of association of companies, among others, for purchase or sale of securities following exercise of an option have been allowed.

For such cases, the "title and ownership of the underlying securities is held continuously by the selling party to such contract for a minimum period of one year from the date of entering into contract," the notification said.