De-merger of a Company

De-Merger means split or division of a business or any undertaking of a company making them a separate unit or undertaking. In short, De-Merger means separation of a large company into one or more small companies.

Meaning of De-Merger: De-Merger means split or division of a business or any undertaking of  a company making  them a separate unit or undertaking. In short, De-Merger means separation of a  large  company into one or more small companies.

Section 232 of Chapter XV of the Companies Act 2013 deals with mergers and amalgamation including demergers.

A demerger is a form of corporate restructuring which is undertaken by companies to promote specialization. Companies have started practising demerger because of the many benefits it offers. Demerger allows a company to expand its operations in a very systematic manner. It allows a specific division or unit to grow as a separate and a focused entity, thereby increasing its efficiency and effectiveness. It benefits the shareholders by providing them better opportunities to participate in the management, operations, decision-making process and profits of the applicant company as well as the resulting company.

Demerger can be affected by any of the following ways:

  1. Demerger by agreement between promoters; or
  2. Demerger under the scheme of arrangement with approval by the Court under section 232 of Chapter XV.

Demerger by Agreement between Promoters

Demerger may take place by agreement between promoters of the demerging company. In such a scenario, the principal company may spin off its specific undertakings to the resulting company. All the property, liabilities and issues of the principal company, transferred to the resulting company immediately before the demerger, becomes the property, liabilities and issues of the resulting company.

DEMERGER UNDER THE SCHEME OF ARRANGEMENT WITH APPROVAL BY THE TRIBUNALS UNDER SECTION 232 OF THE COMPANIES ACT

To affect a demerger, there must be a provision in the Memorandum of understanding of the principal company. The scheme of such arrangement has to be submitted in the respective Tribunal having jurisdiction.

Process for Demerger: Whenever  a company plans to de-merge one of its undertakings from  main  business, then the most adaptable process is De-Merger of the  company.  A demerger is a corporate partition of a company into two or more undertakings, thereby retaining one undertaking with it and by transferring the other undertaking to the resulting company or companies. It is a scheme of business reorganization. De-merger is not defined specifically in the Companies Act, 2013. However, an explanation is given to section 230(1) of the said Act prescribes it as an arrangement for the reorganization of the company’s share capital by:

  1. Consolidation of shares of different classes
  2. Division of shares of different classes
  3. Or both

A demerger is mentioned 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 shareholders of the ‘demerged company’ against the transfer of assets and liabilities.

The following are the major steps involved in the demerger of a company.

Preparation of the Scheme of Arrangement

Scheme of arrangement or compromise is the most crucial document prepared by the  company contemplating to de-merge entity, by which the company binds all related stakeholders on the terms of the demerger. A scheme of arrangement would deal with aspects such as the share swap ratio (if applicable, details of the transfer of debt or payment to creditors, transfer of employees, assets, liabilities and more. The scheme of arrangement can be proposed by the directors of the company or the liquidator of the company. The scheme of arrangement would have to be accepted by the shareholders, creditors, employees and all related stakeholders.

Application in  tribunal

A demerger can be completed by making an application to the  tribunal and through orders issued by a Judge. Hence, to commence the demerger process, an application must be filed in the prescribed form along with the affidavits of the promoters and the following documents:
  • Memorandum and Articles of Association of the Company
  • Latest Audited Balance Sheets
  • List of Shareholders and Creditors
  • Extract of Board Resolution approving the Scheme
  • Scheme of Arrangement
  • Draft notice of Meeting, Explanatory Statements, and replacement or substitute

Issue of Notice

A notice must be sent to the interested parties by the authorized individuals, 21 days before the date of the meeting along with the proposed scheme of arrangement and proxy forms. This notice would be publicized in specified Form through newspapers that are well circulated among the interested parties.

Holding of Meeting

A meeting should be held according to the guidelines of the  tribunal and the output of such meetings should be recorded along with votes in support of or against the motion. The chairperson of the meeting must submit a report in Form 39 within the time approved by the  tribunal.

Petition and Sanction of the  tribunal

A petition has to be submitted to the  tribunal for authorizing the demerger. It has to be sanctioned by three-fourths of members/creditors to file an appeal. Once the  tribunal hears the objections, it verifies the applicability of the scheme submitted and later issues an order. The  tribunal would then pass an order approving the demerger in the same newspaper in which the notice of the meeting was advertised.

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