TRANSFER OF UNDERTAKING THROUGH SLUMP SALE

 

 

Introduction:

Definition of Slump Sale not defined under Companies Act, 2013(herein after referred to as “Act”). Though, it is defined under Income Tax Act, 1961

 

As per Section 2(42C) of Income Tax Act, 1961,
The main elements of a slump sale are

  1. Sale of an undertaking;
  2. lump sum consideration; and
  3. No separate values are assigned to individual assets and liabilities.

The transfer of undertaking of company by way of sale, lease or otherwise dispose of,  is governed by Section 180 of the Companies Act, 2013.

 

 Applicability of Section:

Provisions of Section 180 is applicable on Public Company, Private Companies are exempted vide notification no. F. No. 1/1 /2014-CL.V dated 05th June, 2015.

 

Provision:

According to Section 180 (1) (a) of the Companies Act, 2013 [earlier, Section 293 (1) (a) of the Companies Act, 1956] the Company cannot sell, lease or otherwise dispose of the whole or substantially the whole of the undertaking of the company or where the company owns more than one undertaking, of the whole or substantially the whole of any of such undertakings, except with the consent of such company by passing special resolution for the same.

 

(i) “undertaking” shall mean an undertaking in which the investment of the company exceeds 20% of its net worth as per the audited balance sheet of the preceding financial year or an undertaking which generates 20% cent of the total income of the company during the previous financial year;

 

(ii) the expression “substantially the whole of the undertaking” in any financial year shall mean 20% or more of the value of the undertaking as per the audited balance sheet of the preceding financial year;”

 

As no separate meaning of net worth defined for the purpose of this section, Meaning of Net Worth as per Clause (57) of Section 2 of the Act is as follows,

 “net worth” means the aggregate value of the paid-up share capital and all reserves created out of the profits, securities premium account and debit or credit balance of profit and loss account, after deducting the aggregate value of the accumulated losses, deferred expenditure and miscellaneous expenditure not written off, as per the audited balance sheet, but does not include reserves created out of revaluation of assets, write-back of depreciation and amalgamation.

 

Checklist for Slump Sale (Transferor Company):

  • Ensure that the Memorandum of Association of Transferor contain the power to sell undertaking / Business
  • Audited Balance Sheet of preceding year of Transferor Company.
  • Decide upon the lump sum consideration and its mode of payment.
  • Draft the Slump Sale Agreement more specifically keeping in mind taxation and stamp duty perspective.

 

Checklist for Slump Sale (Transferee Company):

  • Transferee Company Memorandums of Association contain object(s) for carrying on such business.

 

Procedure:

 

  • Check whether undertaking fall under the criteria mentioned in the section 180(1)(a) w.r.t. Audited Balance sheet of the preceding financial year.
  • Send Notice calling Board Meeting atleast 7 days before the meeting.
  • Convene Board Meeting and pass Board Resolution for approval to sell, lease or otherwise dispose of undertaking and convene EOGM.
  • Send Notice calling EOGM atleast 21 clear days’ before the meeting.
  • Convening of EOGM and Passing of Special Resolution for approval to sell, lease or otherwise dispose of undertaking.
  • File E-Form MGT-14 within 30 days from the date of passing of Special Resolution with the required fees with the Registrar of Companies.
  • Execute necessary agreements, conveyance/ assignment deed.

 

 

Miscellaneous:

 

Conditions can form part of Special Resolution:

Pursuant to subsection (4) of Section 180, Company can stipulate conditions including:

  • regarding the use,
  • disposal or
  • investment of the sale proceeds which may result from the transactions.

 

in special resolution approving sell, lease or otherwise dispose of the whole or substantially the whole of the undertaking.

In case Company wants to reduce its share capital after transfer of undertaking, it has to follow provision prescribed under section 66 of the Act, this subsection section shall not be deemed to authorise the company for the same.

 

Special Resolution to be passed through Postal Ballot:

As per the provisions of Section 110 of the Act, Special Resolution for sale of whole or substantially whole of undertaking of the company under section 180(1)(a) shall be passed only by means of voting through a postal ballot, except One Person Company and companies having members up to 200.

 

Title of Buyer will be Valid; in case of non-compliance of provision of the Act:

The title of a buyer or other person who buys or takes on lease undertaking in good faith, will not affect adversely only because that seller company has not complied the provision of this section.

 

Penalty for not complying provision of this section to transferor Company under Section 450 of the Act:

The company and every officer of the company who is in default or such other person shall be punishable with fine which may extend to ten thousand rupees and where the contravention is continuing one with a further fine which may extend to one thousand rupees for every day after the first during which the contravention continues.

 

Exception:

All Slump sale may not require approval under Section 180(1)(a), if

  1. a) Not fall under the definition of undertaking or substantially the whole of the undertaking defined under section;
  2. b) Ordinary business of the company consists of, or comprises the sale or lease of any property.

 

Notes:

  • We need to consider the audited balance sheet of the preceding financial year for identifying applicability of provisions of this section . One should not consider any increase or decrease in the value of net worth of the company after audited balance sheet of the preceding financial year.
  • While this definition specifies criteria of what qualifies as an undertaking the word undertaking is not defined per se. Thus judicial interpretation needs to be relied upon to decide what qualifies as an undertaking or we can also refer any other act which define Undertaking.

 

 

Analysis of term “Undertaking”:

In this context it is indeed unfortunate that the term “Substantially the whole of undertaking” has been defined purely as 20% or more of the ‘value’ of the undertaking. On technical and literal reading this would mean that if assets worth more than 20% of value of undertaking are being transferred, the company would be regarded as having transferred “Substantially the whole of undertaking” thereby mandating the requirement of a special resolution of its shareholders.

 

Let’s see practical case on it

Case 1: Special resolution Required

ABC Pvt Ltd has two units, Unit A (generating 80% of its total income) and Unit B (generating 20% of its total income). ABC Pvt Ltd intends to transfer part of Unit B (comprising 20% of the value of Unit B) to B Co.

 

 

 

 

 

Based on an initial interpretation of Clause 180 of the 2013 Act, the transfer mentioned above would require a special resolution in spite of the fact that a part of a unit of ABC Pvt Ltd, which generates only 4% of its total income, is to be transferred.

Case 2: Special resolution Not Required

XYZ Pvt Ltd has two units, Unit X (generating 81% of its total income) and Unit Y (generating 19% of its total income). Unit Y is to be transferred to Z Co.

 

 

 

 

 

Based on an initial interpretation of Clause 180 of the 2013 Act, the transfer mentioned above does not require a special resolution in spite of the fact that a unit, which generates 19% of the total income of A Co, is to be transferred.

Apart the materiality test mentioned above, which was introduced in the definition of undertaking, the unit or part of the unit intended to be transferred will still have  to fulfil the requirement of being an “undertaking.”  In various cases in the past, courts have interpreted undertakings as the business or activity of companies as a whole. Furthermore, they have opined that transfer or sale of shares cannot be interpreted as the transfer of an undertaking, even if the controlling interest in a company is transferred or when the shares transferred are the only assets or a substantial portion of the assets of the company. The aspects mentioned above have still not been clarified under the 2013 Act.

It has been seen that a significant number of transactions typically follow a two-step process wherein the sellers “push” the business intended to be divested into subsidiaries, and thereafter sell their shares to potential investors. In such cases, the first step of transfer of a business from a holding to a subsidiary may be regarded as a related party transaction, and there are strict provisions in relation to consent being obtained through special resolutions by a holding and a subsidiary. These will need to comply with the provisions pertaining to related party transactions.

 

TRANSFER OF UNDERTAKING THROUGH SLUMP SALE

 

 

Introduction:

Definition of Slump Sale not defined under Companies Act, 2013(herein after referred to as “Act”). Though, it is defined under Income Tax Act, 1961

 

As per Section 2(42C) of Income Tax Act, 1961,
The main elements of a slump sale are

  1. Sale of an undertaking;
  2. lump sum consideration; and
  3. No separate values are assigned to individual assets and liabilities.

The transfer of undertaking of company by way of sale, lease or otherwise dispose of,  is governed by Section 180 of the Companies Act, 2013.

 

 Applicability of Section:

Provisions of Section 180 is applicable on Public Company, Private Companies are exempted vide notification no. F. No. 1/1 /2014-CL.V dated 05th June, 2015.

 

Provision:

According to Section 180 (1) (a) of the Companies Act, 2013 [earlier, Section 293 (1) (a) of the Companies Act, 1956] the Company cannot sell, lease or otherwise dispose of the whole or substantially the whole of the undertaking of the company or where the company owns more than one undertaking, of the whole or substantially the whole of any of such undertakings, except with the consent of such company by passing special resolution for the same.

 

(i) “undertaking” shall mean an undertaking in which the investment of the company exceeds 20% of its net worth as per the audited balance sheet of the preceding financial year or an undertaking which generates 20% cent of the total income of the company during the previous financial year;

 

(ii) the expression “substantially the whole of the undertaking” in any financial year shall mean 20% or more of the value of the undertaking as per the audited balance sheet of the preceding financial year;”

 

As no separate meaning of net worth defined for the purpose of this section, Meaning of Net Worth as per Clause (57) of Section 2 of the Act is as follows,

 “net worth” means the aggregate value of the paid-up share capital and all reserves created out of the profits, securities premium account and debit or credit balance of profit and loss account, after deducting the aggregate value of the accumulated losses, deferred expenditure and miscellaneous expenditure not written off, as per the audited balance sheet, but does not include reserves created out of revaluation of assets, write-back of depreciation and amalgamation.

 

Checklist for Slump Sale (Transferor Company):

  • Ensure that the Memorandum of Association of Transferor contain the power to sell undertaking / Business
  • Audited Balance Sheet of preceding year of Transferor Company.
  • Decide upon the lump sum consideration and its mode of payment.
  • Draft the Slump Sale Agreement more specifically keeping in mind taxation and stamp duty perspective.

 

Checklist for Slump Sale (Transferee Company):

  • Transferee Company Memorandums of Association contain object(s) for carrying on such business.

 

Procedure:

 

  • Check whether undertaking fall under the criteria mentioned in the section 180(1)(a) w.r.t. Audited Balance sheet of the preceding financial year.
  • Send Notice calling Board Meeting atleast 7 days before the meeting.
  • Convene Board Meeting and pass Board Resolution for approval to sell, lease or otherwise dispose of undertaking and convene EOGM.
  • Send Notice calling EOGM atleast 21 clear days’ before the meeting.
  • Convening of EOGM and Passing of Special Resolution for approval to sell, lease or otherwise dispose of undertaking.
  • File E-Form MGT-14 within 30 days from the date of passing of Special Resolution with the required fees with the Registrar of Companies.
  • Execute necessary agreements, conveyance/ assignment deed.

 

 

Miscellaneous:

 

Conditions can form part of Special Resolution:

Pursuant to subsection (4) of Section 180, Company can stipulate conditions including:

  • regarding the use,
  • disposal or
  • investment of the sale proceeds which may result from the transactions.

 

in special resolution approving sell, lease or otherwise dispose of the whole or substantially the whole of the undertaking.

In case Company wants to reduce its share capital after transfer of undertaking, it has to follow provision prescribed under section 66 of the Act, this subsection section shall not be deemed to authorise the company for the same.

 

Special Resolution to be passed through Postal Ballot:

As per the provisions of Section 110 of the Act, Special Resolution for sale of whole or substantially whole of undertaking of the company under section 180(1)(a) shall be passed only by means of voting through a postal ballot, except One Person Company and companies having members up to 200.

 

Title of Buyer will be Valid; in case of non-compliance of provision of the Act:

The title of a buyer or other person who buys or takes on lease undertaking in good faith, will not affect adversely only because that seller company has not complied the provision of this section.

 

Penalty for not complying provision of this section to transferor Company under Section 450 of the Act:

The company and every officer of the company who is in default or such other person shall be punishable with fine which may extend to ten thousand rupees and where the contravention is continuing one with a further fine which may extend to one thousand rupees for every day after the first during which the contravention continues.

 

Exception:

All Slump sale may not require approval under Section 180(1)(a), if

  1. a) Not fall under the definition of undertaking or substantially the whole of the undertaking defined under section;
  2. b) Ordinary business of the company consists of, or comprises the sale or lease of any property.

 

Notes:

  • We need to consider the audited balance sheet of the preceding financial year for identifying applicability of provisions of this section . One should not consider any increase or decrease in the value of net worth of the company after audited balance sheet of the preceding financial year.
  • While this definition specifies criteria of what qualifies as an undertaking the word undertaking is not defined per se. Thus judicial interpretation needs to be relied upon to decide what qualifies as an undertaking or we can also refer any other act which define Undertaking.

 

 

Analysis of term “Undertaking”:

In this context it is indeed unfortunate that the term “Substantially the whole of undertaking” has been defined purely as 20% or more of the ‘value’ of the undertaking. On technical and literal reading this would mean that if assets worth more than 20% of value of undertaking are being transferred, the company would be regarded as having transferred “Substantially the whole of undertaking” thereby mandating the requirement of a special resolution of its shareholders.

 

Let’s see practical case on it

Case 1: Special resolution Required

ABC Pvt Ltd has two units, Unit A (generating 80% of its total income) and Unit B (generating 20% of its total income). ABC Pvt Ltd intends to transfer part of Unit B (comprising 20% of the value of Unit B) to B Co.

 

 

 

 

 

Based on an initial interpretation of Clause 180 of the 2013 Act, the transfer mentioned above would require a special resolution in spite of the fact that a part of a unit of ABC Pvt Ltd, which generates only 4% of its total income, is to be transferred.

Case 2: Special resolution Not Required

XYZ Pvt Ltd has two units, Unit X (generating 81% of its total income) and Unit Y (generating 19% of its total income). Unit Y is to be transferred to Z Co.

 

Based on an initial interpretation of Clause 180 of the 2013 Act, the transfer mentioned above does not require a special resolution in spite of the fact that a unit, which generates 19% of the total income of A Co, is to be transferred.

Apart the materiality test mentioned above, which was introduced in the definition of undertaking, the unit or part of the unit intended to be transferred will still have  to fulfil the requirement of being an “undertaking.”  In various cases in the past, courts have interpreted undertakings as the business or activity of companies as a whole. Furthermore, they have opined that transfer or sale of shares cannot be interpreted as the transfer of an undertaking, even if the controlling interest in a company is transferred or when the shares transferred are the only assets or a substantial portion of the assets of the company. The aspects mentioned above have still not been clarified under the 2013 Act.

It has been seen that a significant number of transactions typically follow a two-step process wherein the sellers “push” the business intended to be divested into subsidiaries, and thereafter sell their shares to potential investors. In such cases, the first step of transfer of a business from a holding to a subsidiary may be regarded as a related party transaction, and there are strict provisions in relation to consent being obtained through special resolutions by a holding and a subsidiary. These will need to comply with the provisions pertaining to related party transactions.