Open offers are more taxing

Both acquirers and investors lose in the process

On Monday, investors of United Spirits (USL) greeted Diageo Plc’s deal with a 35 per cent increase in the stock price – the highest spike in a stock price after such an announcement in over half-a-decade. Since then, the stock price has hovered around Rs 1,850 levels – Rs 410 or 28.5 per cent more than the open offer price offered by Diageo.

Experts have been quick to point out that Diageo would have to revise their price upwards and fork out much more to buy 26 per cent. And most feel that the stock price is unlikely to fall below the offer price in the near future.

Daigeo’s is not an isolated case as open offers have seldom sailed through in India. Several companies, such as SpiceJet and Everonn Education, have struggled with offers. One of the main reasons is taxation.

According to the present regulation, open offers are classified as off-market deals entered into between private individuals. Since there is no securities transaction tax (STT) of 0.1 per cent on the share sale, the taxation, consequently, is different from open market transactions.

For shares tendered in the open offer, the short-term capital gains (less than a year) are taxed at 10 to 30 per cent, depending on the individual's tax slab. In case, the stock has been held for over a year, the long-term capital gains are taxed at 20 per cent without or 10 per cent with indexation benefit – much like debt instruments and gold.

In contrast, for transactions in the secondary market, the short-term capital gains tax on sale of shares or mutual funds is 15 per cent and long-term capital gains tax is zero, if STT has been paid.

For a person in the highest income-tax bracket (30 per cent) looking for short-term gains, selling the share in the secondary market is much more tax efficient as he pays only half the tax amount. Similarly, for a long-term investor, there is no tax.

As Vinod Sharma, head, private broking and wealth management, HDFC Securities, puts it, “For an investor who has held a stock for more than a year, selling in the open market even at a lower price than the offer is a better situation. If the investor tenders the share in the open offer, the stock attracts a long-term capital gains tax.”

A couple of years before, the Securities and Exchange Board of India’s takeover advisory committee had recommended that tax parity be introduced for shareholders who tender their shares in open offers and those who sell through the stock market. According to the committee, the open offer only provides an opportunity to investors to exit the company and, hence, need not be treated as off-market transaction.

Experts feel life could be made much easier for both companies and investors if there isn’t differential treatment of the two transactions. “Today, the acquirer does not get the desired quantity of shares in the open offer because of this reason,” adds Sharma. The retail investor also suffers due to lower capital gains. In the end, both lose.